Tuesday, July 27, 2010

Obama’s Goal to Double Exports – Pie in the Sky?

The President recently expressed a desire to increase US exports to the world by 100% between 2010 and 2015. This seems to be another one of those hopeful goals that doesn’t have much basis in reality. Part of the reason is simple business. The other part is history. Let’s start with history.

The US exported $1.564 trillion of goods and services in 2009. Two-thirds or about $1.038 of the 2009 total were sales of goods and the remaining $526 billion were services. We don’t know what exports will be in 2010 – the benchmark year for the doubling of exports since we barely have first quarter 2010 results. So let’s just use the 2009 number. President Obama is asking the nation to increase exports by another $1.564 trillion in five years. Is that possible?

How much did exports grow during the previous five year period between 2004 and 2009? Answer -- $384 billion. Hmm, that’s only one-fourth of what he is hoping for in the next five years. Keep in mind that between 1995 and 2009 – a fourteen year period – exports only grew by 93%. He wants them to grow by 100% in the next five years. It isn’t like US firms were intentionally slowing things down. Exports grew by double-digit rates in each of the past five years except for 2009 – 10.6%, 12.7%, 12.6%, 10.6%, and -14.6%.

These statistics are based on current prices. They are nominal figures. Luckily the government calculates real counterparts for exports like they do for all parts of Gross Domestic Product. I mention this because the above numbers include price change – something firms and the government have little control over. Global competition will determine prices of international transitions in the next five years. Furthermore, the President’s goal only makes sense in real terms. Meeting the goal by simply raising prices does little to heal the recession or unemployment.

So let’s look at the numbers that are more based on something the President would like to see – more units of output sold – presumably more cars, electronics, and ears of corn.

Real US exports of goods increased by 72% over the last 14 years and by about 17% in the last five years. While exports based on current prices averaged low double-digit increases in most of the last five years, the average annual growth of real exports of goods was more like 8% per year. It would take something more like 18% per year to achieve the President’s goal of a doubling in five years. Over the last 14 years real exports of goods and services increased by 12% one time (1997) but then increased by 2% in the following year.

It might be surprising to you that exports of services have been growing faster than exports of goods. Usually when we think of exports and export goals, we think of goods like auto parts, equipment or food products. Over the last 14 years the category food, feeds and beverages increased by only 31%. Durable goods exports increased by 58%. The real stars of export growth were found in services – Royalties and license fees (116%) and Other private services (197%).

In short, history implies that if the President’s export goal was translated into basketball, he would be asking our Olympic squad to score 200 points per game while holding each opponent to about 45 points.

This brings us to the business side. Our Olympic players have not exactly been sleeping on the job – nor have our exporters. You might not know this but strong export sales has been a goal of federal and state governments for a long time. There are government officials and programs ready with a full slate of assistance to companies large and small who desire to export. While there might be a few new bells and whistles in the way of assistance in Obama’s goal, a company could always go to something like the following web site for federal assistance http://www.export.gov/ If Washington DC is too far from the location of the exporter, they can go to the federal or state office nearest them for help. The Indiana office is in Indianapolis. Every state has a similar federal office. Most states also have state government offices devoted to export assistance. Senator Lugar has a web site for Hooisers which lists many services -- http://lugar.senate.gov/services/links/pdf/Trade_Assistance_Fact_Sheet.pdf Go to the next link and you will find links to export assistance for US firms in almost any country in the world. These are organizations whose feet are planted on foreign soil who are paid by the US or state governments to help US companies export. http://www.buyusa.gov/home/worldwide_us.html

My point is that we are not new to this. There is a ton of really good help out there for companies that want to export. If a company is NOT now exporting it is because its managers don’t see the need to.
So here’s my question to the President – how do you plan to get our players to score 200 points per game? Where’s the meat?

Are you really going to sign free trade agreements? Hmmm – it seems to me that many of your strongest supporters are quite happy that we do not have a conclusion to the Doha Round or the Korea FTA. Are you really going to sign these accords? Your supporters don’t mind the extra US exports that might arise but they have definite strong feelings against opening up the US economy to more foreign competition at home. Sugar – did someone say sugar? Will you stop protecting sugar-growers in America so that South Americans will open their markets to other US goods?

And what are our friends at the WTO going to say about your plan to increase by 100% the exports of the largest economy in the world – the country that still is among the top exporters in the world? Will you abide by WTO rules governing exports? Can you increase US exports by 100% by not disturbing competitive shares of world sales going to Europe, Brazil, China, etc? Will they sign the Doha Round while you are conjuring up a 100% increase in exports to their countries?

Are you going to apply massive pressure on China to buy more US goods? How has that been working so far? What new tricks do you have up your sleeve?

Clearly I think this is a big mistake to try to manipulate exports. So how are we going to get the US back on its feet? The answer is something I have been preaching over and over in my other posts. What we need is the most competitive and dynamic economy in the world. We need firms that are hungry to succeed and are justly rewarded when they do so whether they sell their goods at home or abroad. We don’t need firms saddled with unnecessary regulations and costs. We don’t need firms who hold back because they are uncertain about the future course of regulations and costs. We don’t need firms who are considered the enemy of the worker, investor, and consumer. Firms have their part to play – but the rest of us do too. Let’s quit waving our flags at silly unattainable goals and do something that we will all be proud of when our grandkids start paying taxes. Okay—I am done. Whew. Where did Betty hide the gin?

Tuesday, July 20, 2010

Stimulus -- you can pay me now or you can pay me later

This post is stimulated by comments I received on the issue of unemployment in the USA. Many of the arguments against further economic stimulus today are phrased in terms of such issues as rising inflation, budget deficits, national debt, and so on. It is easy to ignore these arguments since they sound much less imminent and alarming than a 9.5% unemployment date. It is easy to imagine the horrible plights of unemployed persons and their families. National Debt and rising inflation seem much less important. But it simply isn’t true. What I try to show below is that a fix that leads to an enduring impact on employment and unemployment is what we want. Stimulus packages and extensions of unemployment insurance may not be the best way to get what we want. If stimulus helps a worker keep his or her job for another couple of months but then leads to a time of rising unemployment after that then you might not vote for it. The issue, then, is about unemployment now and later.

The first thing to emphasize is that while government could conceivably hire all or most of the unemployed persons – not many people really want that as the permanent solution. We recognize that firms always have been and probably always will be the main driver of job growth in the USA. Yes, there are plenty of people who believe that government could hire more people or keep them on unemployment insurance longer as a short-term stimulant, so I will turn to that below. But that is, at best, a temporary fix and not the real solution.
Stimulus seems obvious. Since the unemployment rate remains high, the stimulus argument asks that government add more stimulus – or at least not withdraw or reduce the present level of stimulus. Private spending is lacking. Replace the private spending with public spending. This puts income in people’s pockets and replaces the missing demand for goods and services. The increased demand has a multiplier impact as firms hire workers to do jobs, pay them income which they spend, and spreads the benefits to other firms. In the meantime, uncertainty or lack of confidence disappears and firms are more willing to spend on plant, equipment, and capital items. Not only is this intuitive but it is humane. All those unemployed people regain not only jobs but dignity. I may have missed some of the points but I hope I have reproduced the essence of the stimulus argument.

Intuition helps us solve a lot of problems – but it isn’t always right. The world is complicated enough to facilitate difference of opinion. We used to think blood sucking leeches would solve a variety of human health ills. No I am not talking about any of my relatives. Physicians who voiced objections about blood sucking remedies cared about their patients even though they might have been out of step with traditional practice. Economists and others who argue against continued stimulus care about unemployed people. What matters is not the name or party of the arguers – what matters is what really works.

Since I am one who believes continued stimulus is not the best approach right now, it behooves me to focus on the issue of unemployment – and that’s what I have done in past posts. So let me bring together here what I tried to do in the past messages.

The challenge here is that while the pro-stimulus argument is intuitive, the con-stimulus arguments are not. For example, the Cons are usually phrased using an expectations-augmented shifting Phillips curve. Ohhhh crap – not that one again! J Or the Cons get hung up trying to explain future discounted capital budgeting issues. Or they might worry about disincentive effects of higher tax rates. Arrgghhh

I used past posts to get into the nitty gritty of all that technical stuff. Often I lost the forest (unemployment) for the complicated trees. So let me just try to summarize some of the points here with a stronger focus on unemployment.

First is “you can pay me now or you can pay me later.” A stimulus policy might reduce the unemployment rate now but it won’t last. This is exactly what we saw with the expiration of the massive subsidies to buy cars and houses. We mostly shifted future buying into the present. I wrote one post to explain why the USA and the world economy might not be as far as we think from reducing excess capacity. A huge dose of stimulus on top of the past stimulus could lead to a rise in inflationary expectations, increased input costs, a profit squeeze and a higher unemployment rate. We call this phenomenon stagflation. Some folks say we are a long way away from this. But the facts suggest otherwise. Expectations are sensitive and can move in upward direction quickly.

A second part of “pay me now…..” is what the Fed does. If excess capacity starts declining the Fed will start to remove the monetary stimulus and interest rates will rise. The chances are that the Fed might not remove this stimulus on a perfect time table. In addition to stagflation we could have the Fed moving too slowly then tightening demand too much and this could lead to higher unemployment.

Third, in a previous post I documented the size of changes in the federal debt. But the debt is not the ultimate problem – it is just the symptom. If the USA is alone in its ignorance of the implications of high debt and if the USA adds even more to the bloody debt numbers – it will have an impact on people who participate in the credit markets. But it doesn’t stop there. If domestic and foreign participants lose faith in American financial assets and move their money abroad, this will show up as a reduction in the demand for US goods and services and a rise in the unemployment rate. Some economists argue that this could never happen to the US. But their arguments are not based on current realities. Already we see global investors shifting out of dollars into euros and yen.

Fourth, I wrote a silly analogy about Mary and her Twinkies. But the point is that government spending is habit-forming. Once you get the government spending train going – it isn’t easy to slow it down. After the mid-term elections in November, a bipartisan committee will begin to work on a program to address my third point above. An extension of the stimulus program into the rest of 2010 and beyond makes the job of that special commission even harder. This is partly because the past and future stimulus mixes spending whose intent was to quickly increase spending with other spending that’s aimed at America’s special long-term policies with respect o defense, energy, health care, and more. With partisanship so vivid and strong I pity the members of that commission. If we cannot bend the spending line I doubt we will have any better luck with restructuring taxes. This let down in budget courage will simply add to worries about a financial outflow and will increase the unemployment rate. This makes me really hungry for a Twinkie. Do Twinkies go well with Jack Daniels at 10 am?

Fifth are current expectations of the future health of US business. It matters when people discuss whether or not President Obama is pro business or not. Consider all the spending and taxing and regulation policies that will negatively impact business. It doesn’t matter whether you love business or not. If business is going to hire all those folks then you better not throw away the baby with the dirty bathwater. Many of you have been waiting for years or decades for a president who would solve our long run problems in healthcare, energy, global warming, immigration, social security, financial market problems, poverty, and more. But as James Brown would say – Please Please Please – have we thought about the impacts on business hiring decisions as we try to implement all this legislation quickly (before Obama loses his majority in both houses)? If businesses are to create the jobs in the future, one must not rush to judgment and we must answer this question thoughtfully.

Sixth is basic intuition. If the unemployment rate went up because of too much debt and bad debt – it is hard to imagine that the solution to the problem would be even more debt.

Finally, while the intuition is that stimulus could and should work again, there is no real consensus that it will. As I said above, much of what was called a stimulus package was simply an excuse to attack a myriad of problems – whether or not the spending would quickly impact the economy. If Congress could not be trusted to enact real stimulus at the onset of recession, why should they do any better at a time when the economy has been growing by approximately 3% for as much as a year?

In summary, the prospects do not look very good for improving the unemployment situation with more stimulus. We really should be looking elsewhere.

Thursday, July 15, 2010

US Debt -- A Mountain or a Molehill?

So much is being said about US debt these days – and much of it is bewildering. What is it? How big is it? Why do we worry about it?

Much of the discussion is now related to what we call the US or the Federal Debt. The Federal Debt is really just one measure of the nation’s debt. It does not include any of the debt of private parties. That is, if you borrow $100 from Uncle Bob or $100,000 from a bank, this is not captured in the Federal Debt. Furthermore, if a US corporation sells a bond to a foreigner, this loan would not be captured in the Federal Debt – though it would be part of the nation’s Foreign Debt or Net International Investment position.

The Federal Debt is really a pretty simple and straightforward concept. It is the Federal government’s debt. Any time the Federal Government spends more than it receives in revenue (we also call that a Federal deficit), the government must borrow money to make up the difference (no it doesn’t send Milton Friedman out in a helicopter to spew money). The government borrows by printing and selling government bonds. Each government bond it sells to cover a deficit adds to the Federal Debt. In any year that the Federal Government has a budget deficit, the Federal Debt increases. Since we usually have government deficits each year in the USA – it is no surprise that the Federal Debt has increased over time.

In 1940 the US Federal Debt was $50.7 billion. By 1982 it reached $1 trillion. Ten years later it hit $4 trillion, and by 2002 it was more than $6 trillion. In 2010 it will reach $13.8 trillion and promises to land at $20 trillion by 2015. Woooowwee – I wish that was my retirement portfolio! Slowdown Wally – it isn’t exactly what it seems.

My Dad used to tell us kids that he could buy a Chinese meal in Brooklyn for the family in the 1930s for 25 cents. I used to tell my kids, that I could buy a six pack of PBR for only $1.25 when I was using a fake ID back in the 1960s. The point is that we need to create some perspective for these debt amounts when we make comparisons over time. Most tables will show the debt in terms of current GDP – the debt is in nominal terms (current prices) and so we use nominal GDP (instead of the more popular and svelte real GDP).

In 1940 the Federal Debt was about 52.4% of the size of nominal GDP. Here are the percents for the other years I mentioned above:

1982 35.3%

1992 64.1%

2002 58.8%

2010 94.3%

2015 102.6%

The upshot is that between 1940 and 1982, the Federal Debt got bigger in $$ terms but did not keep up with growth in output and prices. Federal Debt was a smaller share of the economy in 1982 than it was in 1940. Despite rising to a high of 121.7% in 1946 (MY BIRTH YEAR!) and despite a war in Vietnam and a war on poverty – the Federal Debt’s increase was less than the growth of output and prices!

But since 1982 the debt percent of GDP crept higher and higher – meaning the debt was rising faster than the size of economy. The 64% of the economy commanded by the debt in 2008 before the recession got some momentum was thought to be quite manageable for the US. It was not out of line with debt percentages of other stable countries. The 90% PLUS rate in 2010 is in line with other struggling countries today and that is what much of the talk is about.

But what of the talk? The intuition has to do with payback. If my family debt gets too big, then I won’t be able to pay it back. That is a problem for me and it is also a big problem for the joker who lent me the money. But that sort of talk is about individuals. Can we apply this intuition to countries?

Most of the Federal Debt is simply what Americans owe to Americans. A portion of the Federal Debt is owed to foreigners, but let’s ignore that for a minute. If we have more debt in the USA, then the gross debt might become large but the net debt is zero – because we owe it to ourselves. Tax payers might have a liability worth $1 but the people who bought the bonds have a $1 asset.

That makes Federal Debt seem pretty cool, until we notice a couple things. First, changes in the economy may have non-symmetric impacts on debtors and credits. For example, an unexpected rise in inflation really stings creditors while it makes the debtors feel like partying until 6am with colorful hats and noise makers. So even though the net debt might be zero – the existence of a large gross debt implies that there are many macroeconomic changes that could have very significant and negative impacts on debtors or creditors. Without the large gross debt – those things would be much less disturbing.

Second, while the net debt might be zero, once the gross debt gets large enough to where it might not be possible to pay it off – it could lead to social instability as we grapple with political issues about what to do about debt holders who will no longer receive their contracted interest and principal.

So even if we owed it all to ourselves – there would still be problems associated with a large gross debt. But foreigners do hold some of the US Federal Debt. In 2009 approximately $3.6 trillion of the $11.9 trillion Gross Federal Debt was held by foreigners. The implication is that this makes things a little tougher on a country that defaults – we don’t just owe it to ourselves and bringing in the international ramifications means there might be even more negative implications of a default or restructuring. Owing 30% of the total debt to foreigners makes the size and interpretation of the debt more complicated and interesting.

What makes the numbers even more confusing is that I quoted 94.3% as the Federal Debt percentage for 2010 but I have seen many references to a 60.3% figure. That’s a big difference. Both numbers are correct! That’s because I have been quoting above the Total Federal Debt –while the 60.3% for 2010 is for the Federal Debt Held by the Public. That figure is expected by the Congressional Budget Office to rise from about 60.3% in 2010 to about 66.7% in 2020. It was 30.6% in 2007 before the recession and 27.8% in 2002.

The Federal Debt Held by the Public is less than the total debt because some of the bonds sold by the government are purchased by other government agencies and by the Federal Reserve. While the government is obligated to pay back the Total Debt, it is thought that the Debt Held by the Public is more compatible with market outcomes relative to the debt. But let’s face it, whether you measure in dollars or percents; or you measure gross or net; or you discuss total or the amount held by the public – there is no getting away from the fact that the debt has grown. If the Debt Held By the Public does increase to 66.7% in 2020 it will have grown more than twice as fast as the economy between 2007 and 2020.

Let me stop there. There are so many ways to go from here. Let’s see what the comments bring.

Friday, July 9, 2010

Inflation or Deflation? Part 2

In a previous post -- Inflation or Deflation Part 1 -- I focused on how to read an inflation press release. Now let’s talk more about the issues. Below I try to persuade you that deflation is not a high probability event and reflation might not be as far away as some people think.
If we are going to forecast something, then we need to check it out first. When faced with a choice for an appetizer, will Mikey choose the piled-high gooey nachos or the patiently arranged raw carrots and celery? Not knowing too much about Mikey, it would be good to have an experiment where we watched Mikey 100 or more times and see what he chose. In that spirit let’s see what we know about changes in the CPI rate of inflation. The graph at the St. Louis Fed (http://research.stlouisfed.org/publications/net/page8.pdf ) might be instructive. The CPI graph plots yoy (year-over-year) inflation rates from 1984 to present. You see the inflation rate going above 6% in 1990 and then following a disinflation trend through about 1998 when the inflation rate fell below 2%. Since then you see a reversal of trend – despite some up and down behavior, the general trend shows the inflation rate generally rising from 1998 to 2008 where it almost reached the 6% mark in mid-2008.
Recent behavior, therefore, shows that inflation has the capacity to both fluctuate and to move in general trends for significant time periods. The latest trend was reflation – and the big question is where we are headed from today in 2010. After peaking in mid 2008, we see the only yoy episode of deflation happening in mid 2009—followed by a return to over 2% in 2010. As of May 2010, the yoy rate is about 2%.
With that background, what can you say? What will the data show in the next half year through December 2010? Will we return to reflation similar to 1998 through 2008? Or will we disinflate like we did from 1990 to 1998?
To answer these questions, this one chart isn’t going to be enough. We need to supplement it with data and explanations about cause and effect. This sounds pretty cool to me – but the TRUTH is that inflation is like other economic indicators – it is complicated and the cause/effect factors change over time. What I am saying is that I am not going to be proving anything here. You won’t see any equations or null hypotheses here. This is more like a Rorschach Test – what you see in the picture may be determined more by your own potting training than by my artistic abilities. In this case I am acting as much like a lawyer (shudder) as an economist. A lawyer does not have to prove that his client is innocent – he simply has to use facts and arguments to convince the judge or jury that his client did not, in fact, steal that plane and fly it to a remote Caribbean Island. Dear judge – let me try to convince you about the future course of inflation.
Economists use theory (some people would call this gobbligook) to try to understand inflation. Since this theory topic could be a whole chapter in a long dreary textbook, please excuse me for simplifying. CPI inflation theory is about the causes of changes of the prices of goods and services we consume each month. In a market system, we think that the prices of most goods and services are driven by supply and demand. When demand is rising faster than supply of goods and services, we predict reflation. When supply is increasing faster than demand, then we predict disinflation. If the difference is big enough, this could cause deflation.
Here is a partial but extremely exciting list of things that might cause demand to be rising faster than supply and therefore predict reflation in the near future. Let’s divide the list into demand stuff and supply stuff.
First the demand stuff:
o Fast money growth causes households and firms to want to spend more
o Rising government deficits cause governments, households and firms to buy more
o Rising net wealth cause households to feel wealthier – they spend more
o Firms have been expanding output causing incomes of workers to increase and they spend more
o Consumer confidence is rising causing households and firms to buy more
o The value of the dollar is falling or the incomes of trading partners is rising causing net exports to increase
o Other stuff
Now the supply stuff
o Cost of oil, commodities and other raw materials are rising and causing firms to push costs through into prices
o The value of the dollar is declining raising the price of imported intermediate goods and raw materials.
o Workers and other suppliers expect the economy to improve or inflation to rise so they are asking for higher wages/prices
o Productivity of workers is decreasing causing the cost of output to rise
o Recent legislation is adding costs to business firms
THAT’S A LOT OF STUFF! So let’s focus. We can argue about each or every item on those lists after I post this to the blog site. Let’s focus on one well-known proxy for these factors impacting the demands and supply for goods and services – Capacity Utilization (Cap U). Cap U reflects how intensively firms are using their factories and businesses. When Cap U is high, we think of a factor humming with lots of activity. Lots of shifts are being worked. Some workers are doing overtime. Orders are flying out the doors and trucks are running nice people like us off the road as they hurry to deliver new goods to Best Buy and LaTorre Mexican Restaurant. But when Cap U is low – imagine the cleaning crew whistling as they spend hours dusting off idle machines and slow-moving workers. Not much is going on. Machines and workers are idle.
The below graph of Cap U was taken from the St. Louis Fed. I would point out a few things. First, it is very cyclical. The grey bars show the dates of seven recessions since 1970. In every recession Cap U declined. Look at how much it declined in the 1975 recession. Look at how much it fell between 1980 and 1982. In the recent recession it fell too – as one might expect. Thus, there are disinflationary forces at work in EVERY recession.

Second, notice that the Cap U rate in the latest recession is the lowest of all! While this is true, it is also true that the CHANGE in the Cap U rate has been large but not unprecedented. The rate is low in 2010 because there is a long-term downward trend clearly exhibited in the Cap U. So the meaning of the historically low Cap U is ambiguous with respect to future changes in the inflation rate.
Third, notice that once a recession is over, the Cap U can very quickly return to past higher rates. While it might take a few years to return to previous peak rates – it takes less time to return to normal productive capacity. Normal productive capacity DOES NOT signal future disinflation or deflation.
There is much concern about the weak US economy. No one knows how long the US will remain in recession with low Cap U rates and disinflation. Much depends on that long list of supply and demand factors above. Our US leaders have expressed a strong preference to gamble with inflation by emphasizing the weakness in the economy. I say gamble because we are closer than we think to an increase in Cap U and the latter means that an increase in inflation might be around the corner. But notice that there are many countries who have taken the opposite tack. That is, they prefer not to gamble with inflation. Germany, Canada, and others have weak economic growth too, yet they prefer to err on the side of less stimulus. Their preference is not without some support as I have tried to show here. I would also point out that both Canadian and German beers are excellent.
Sorry but the graph below won't display completely because of my imperfect cut and paste skills! To fee the full graph try this link:

FRED Graph

Sunday, July 4, 2010

AT&T, Barbara Walters, The Economy, and 4th of July

After losing another chunk of wealth this week and reading too many doomsday articles, I was ready to punch a horse when our electricity went out at 2:30 pm on Friday. No one seems to know why a perfectly good pole decided to fall onto our street, taking many lines down with it. No, we folks who live in Bloomington do not have underground utilities (but we do have a mayor and City Council who are very publicly pissed at the governor of Arizona). Luckily the power folks were out here in an instant and restored power within an hour. For Comcast customers, they were lucky too because we saw at least three Comcast trucks out shortly after the incident. But alas, we are AT&T customers and AT&T is still nowhere to be found almost 24 hours later. Yes, we did place many calls and talked to nice Indians in India and we are promised a visit from local repair people. To makes things convenient for us they said they might come between 8 am and noon. It would be lovely to watch Germany today in the World Cup at 10 am but that looks impossible. Maybe we will get to watch Spain later. We will see. Right now we have no TV, no Internet, and no land line. It is a good thing my washer and dryer are not connected to AT&T.

My talk with the consumer disservice people was really fun. We tried all kinds of things but the little red light on my modem kept blinking and blinking and blinking. He was kind and polite and asked me at the end of our 63 minute conversation if there was any more he could do for me. I didn’t respond but later I thought of a lot of really colorful things to say.

The reason I write is because I am really bored and because I was on the front porch watching the grass grow when I thought up a really great analogy for today’s economic misery. Those of you with TV, Internet and telephone might not find this as funny as I do right now, but I appreciate your willingness to hear me out.

So here is Mary. Until a year ago, Mary was the envy of all the girls and some of the boys. She was so slim she could have been an underware model for Victoria Secret. Then without even realizing it, a so-called friend of hers introduced her to the infamous Twinky. Mary was instantly hooked and without going through all the details, let’s just say that a year later Mary gained 80 pounds and was no longer thin enough to be an underware model for Victoria Secret. She didn’t feel very well either so she decided to lose weight.

Mary, being a careful cognitive kind of kid, carefully careened (I know, I know) around the Internet studying all the different approaches to weight loss and settled on a diet which let her eat 100 red seedless grapes a day. She also drank no water. She also skipped her 10 am Twinky. After a few days she dropped 8 pounds. The diet really worked, so she tried it a few more days and lost 7 pounds. Woopee! She was on a roll. All her friends commented on how much better she looked. She spent hours in front of the mirror.

The second week came and Mary was feeling a little weak and sad. She was also having some digestive distress but we won’t go into the details here for the sake of the children. So she decided to add back the 10 am Twinky. I forgot to tell you that she was still eating the other Twinkies at 8 am, noon, 6 pm, and midnight. Some of her friends warned her that her diet was pretty weird and not really a long run solution, but Mary was not about to give up those Twinkies. There must be another way!

The 10 am add-back did make her feel a little better but in the next few days she only lost 4 pounds and she was really despondent. At 4 pounds, it would take months and months to lose enough weight for her to get back into her skin tight revealing Levis jeans. What was Mary to do?

Luckily the national press found out about Mary – Geraldo, Beck and Barbara Walters all came to Mary’s rescue. Geraldo suggested that she get a big bright sign and march outside the Whitehouse to represent Americans and illegals who have been unfairly fattened by the makers of Twinky. Beck thought a thorough reading of Thomas Jefferson would help. Barbara counseled her on TV with very thoughtful empathetic eyebrows. She didn’t actually give her advice but she cried three times.

So there you have it. What was Mary to do? It wouldn’t be fair to deprive her of her regular Twinky. And diets can be SOOOO hard. Exercise is cool but Mary was not going to put on an ugly sweatsuit and ACTUALLY glisten. The US government determined that a commission would be formed to help Mary and the millions of others like her – but it would make no sense to begin meeting until after the November election. Meanwhile, Mary’s rate of weight loss has slowed and reversed. Her blood pressure is rising but the plus is that she has been invited to participate in all the newest reality shows. We understand she might produce a new one – Diabetes Debs.

Just to make sure there is no confusion about the first line of the post – I did not actually punch a horse. I don’t even know a horse well enough to punch. My dog died about 10 years ago and my kids left town years ago. I repeat – no one got punched, kicked or throw out with the dirty bath water. But it is another hour later and no AT&T. I will post this if and when I have access to the Internet Until then I hope you are having a great weekend.

This message is in NO WAY meant to humiliate or denigrate Mary or the Twinky Corporation. If Twinky’s stock value falls tomorrow it is because mean, vicious, did I say mean, selfish, rich, greedy hedge fund managers decided to put a sell or sell a put or whatever. I am barely able to take care of myself much less be responsible for such big things.

Friday, July 2, 2010

Inflation or Deflation? Part 1 – Jets versus the Sharks and Lady Gaga

I intended to write one post about the situation with inflation and deflation but have had tons of fan mail telling me to keep my posts shorter than “Atlas Shrugged.” So let’s call this post Part 1. This post has nothing to do with Lady Gaga but I promised some people I would put her name in my next post.

At the center of the debates about macroeconomic policy today is the question of the future course of prices. One side (or should I say gang – let’s call them the Jets) looks at past money growth and future government deficits in the USA and posits a rise in inflation. Before things get out of hand, the Jets would like to see a more conservative macroeconomic policy. The Sharks, in contrast, see nothing but recession and excess capacity and recommend continued low interest rates and more fiscal stimulus. Some sharks worry about deflation. So, the expected future course of inflation is critical right now. Will we have inflation or deflation?

Given my last post about the complexity of the macro economy it should not be surprising that economists can have such different forecasts of an important economic indicator like inflation. Given the spate of recent news about the slowing world economy and the ensuing decline in stock markets, you might be wondering how I can even say the word inflation…so let’s get to it.

Before we get all sweaty and crazy let’s make sure we use the right terminology. Economists, like astro-physicists and dry cleaners, use a lot of technical lingo. So it won’t hurt to make sure we understand the terminology as it is used to describe changes in national prices. First, when we talk about inflation, we are talking about a percentage change in a price index. There are lots of price indexes (The Richmond Fed has a data table with some of the more popular versions at http://www.richmondfed.org/research/national_economy/national_economic_indicators/pdf/all_charts.pdf#page=34 and the St. Louis Fed has some graphs at http://research.stlouisfed.org/publications/net/page8.pdf .

Most of us are used to following the percentage change in the CPI (consumer price index) and the truth is that most of these other inflation measures are highly correlated to the changes in the CPI. So for most purposes it is okay to focus on the CPI measure of inflation.

Second, articles that report inflation information describe these percentage changes over one-month and/or over one year, yoy (year-over-year). One has to focus and concentrate a lot to get things straight when reading these articles. Just like your weight can vary a lot from week to week, your doctor seems more concerned with how much weight you gained in the last year. Nevertheless, we weigh ourselves every 18 minutes to confirm that the 36 ounce t-bone with mashed potatoes and macncheese really did add a few pounds this week. In May the Bureau of Labor Statistics (press release: http://www.bls.gov/news.release/cpi.nr0.htm ) reported that the CPI fell .1% in April 2010 and then fell by .2% in May but came in at 2.2% and then 2.0% yoy. The former information tells you that the average level of prices fell for two consecutive months but that a whole year of past price change had inflation averaging around 2.0%. So we are keen to see what happens in June – will the one-month rate return to something more normal (it rose by .1% in March of 2010) or will it be negative again? If it is negative again then we might be thinking that the trend is changing. How much will it impact the yoy rate?

Third, you need to know that sometimes the one-month rate – in my example above the decline of .2% in May-- is usually also annualized. That is, they report a number that shows how much that one-month change would amount to if it kept up for 12 months. The annualized rate is NOT the actual change over a year and it is not a prediction – it is a hypothetical to help put one month into an annual perspective. Annualized rates are useful. Suppose Kobe Bryant scores 9 points in the first quarter of an NBA game. Is that a good performance for him? Bryant’s season average this year was 27 points per game. So the 9 points in the first quarter can be “game-ized” to 36 points by multiplying by four quarters. So if he kept scoring at 9 points per quarter, he would score 36 points and be well above his average. So you say – “way to go Mr. Kobe Bryant – you did great in the first quarter.”The -0.2% change I mentioned above for the CPI in May is often multiplied by 12 (yes, compounding is usually ignored) to get an annualized monthly change of about -2.4% per year. The annualized inflation rate for May was approximately -2.4%.

Fourth, articles also report core inflation. Core inflation deals with apple cores. No it doesn’t. I am just checking to see if you are still awake. Economists care about the sustainability of inflation. There are some elements that comprise the inflation index that are bad actors and confuse us about sustainability. Food and housing prices are not very well-behaved. They have a reputation of jumping around unmercifully. All this spasmodic activity hurts the eyeballs for those who read graphs too often and it is misleading as to what the future inflation will be. So we put food and housing prices in the corner – we remove them from the other children – I mean from the other parts of the index. The Core inflation rate, therefore, is less affected by dramatic short-term changes in food and energy and seems more closely attuned to the factors that contribute to a sustainable inflation rate. The CPI less food and energy rose by 0.1% in May, (a 1.2% annual rate) and increased by 0.9% during the past 12 months. If the yoy Core rate were to decline for a few months to reach a rate of about 0.6% yoy, then Mr. Bernanke would stroke his beard and say, Aha – I think we are disinflating.

Am I kidding – disinflating? Children, take out your dictionaries. Disinflation is a frequent phenomenon in the USA – it simply means that the inflation rate is declining. If inflation was 2% last year and 1% this year – that is disinflation. This must be distinguished against datinflation. No I am just kidding again. There is no datinflation – but there is deflation. Deflation means the inflation rate is negative. That does not happen much in the USA. But that is what the Sharks are worried about. Since we are doing vocabulary there is one more term – reflation. The Jets worry about reflation – a rise in the inflation rate.

I had hoped to fully solve the issue of inflation or deflation in this post but alas I see that a few of you have drifted off. Naps are good and I don’t discourage such behavior but it does tell me that I should be napping too. So I will continue all this in my next post. Please stay tuned. In the meantime, review what you learned – inflation, yoy, annualized, deflation, disinflation, reflation, and antidisestablishmentarianism.

Note – For those of you born within the last 40 years or so – there was a musical called Westside Story that premiered in 1957. It is a wonderful love story about a bunch of guys who race around on Jet skis and get eaten by sharks. http://en.wikipedia.org/wiki/West_Side_Story