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July 3, 2014

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Posted: 03 Jul 2014 12:06 AM PDT

'GDP: Seasons and Revisions'

Posted: 02 Jul 2014 10:55 AM PDT

An important reminder about the interpretation of GDP data:

GDP: Seasons and revisions: Growth from the fourth quarter of 2013 to the first quarter of 2014, originally thought to have been about +0.1% in April, was revised last week to –2.9%. That's at a seasonally-adjusted, annualized rate (SAAR)... News reports varied between shock and concern. Was the anemic recovery over? Or, was it just that this winter was especially harsh?
In reality, these headline growth numbers simply don't contain all that much information for real-time business cycle analysis. There are many reasons, but two deserve special attention: (1) the statistical noise created by seasonality; and (2) the propensity to revise GDP many years after the period being measured.
Seasonality in GDP is enormous... The seasonal adjustments swamp the small changes in the adjusted growth rates..., in the first quarter of every year ... the level of output plunges on average by 18 percent! ... The point is that it is difficult to extract the useful signal – the SAAR economic growth rate that we care about – from the noisy unadjusted GDP data. ...
Next there are revisions – lots of them. ... And, the changes can be quite big...
Statistically, the revisions to economic growth for quarter t between the t+3-month estimate (which we just received last week for the first quarter) to the t+10-year estimate (which will not be available for nearly a decade) have ranged from minus 6 percentage points to plus 7 percentage points over the past 40 years, with a standard deviation of about 2 percentage points. Put differently, there remains a good chance that some of this reported decline will be revised away. We might even wonder whether the economy contracted at all last winter. ...
That's why so many observers who care about the cyclical state of the economy turn to data other than GDP – like U.S. labor market reports – that are available quickly and revised quickly, too.

[The full post has more details and examples.]

'Pricing Power and Lower Potential GDP'

Posted: 02 Jul 2014 10:10 AM PDT

Dietz Vollrath:

Pricing Power and Lower Potential GDP: One of the results of the Great Recession has been a severe downward revision in potential GDP across many countries. Laurence Ball just had a Vox post on this..., finding that potential GDP is lower by 8.4% on average across the OECD, and up to 30% lower in places like Greece. This is similar to Fernald's recent finding that potential GDP is lower in the U.S., the only difference being that Fernald finds the slowdown in potential GDP started before 2007. Potential GDP is growing more slowly than previously because of slower capital accumulation, slowing (or falling) labor force participation, and/or lower growth in total factor productivity (TFP).
One interpretation of slowing TFP growth is that we are actively getting worse at innovating and/or bringing innovations to market. For Fernald, the burst of innovations coming from the IT revolution are running out. In a recent Brookings report, new firms are not starting up as quickly, possibly reducing the rate at which new innovations are brought on board. Ball doesn't really take a stand on what is happening, but the implication is that the Great Recession did something that is pulling down productivity levels.
The point I want to make here is that declining measures of TFP do not necessarily imply that our ability to innovate or bring innovations to market is declining. Measured aggregate TFP can decline, or grow more slowly, even though firms are just as technically productive as before, and are innovating at the same rate as before. Instead, measured TFP growth may be slowing down because of changes in the market power of firms during the recession. ...

'Monetary Policy and Financial Stability'

Posted: 02 Jul 2014 09:50 AM PDT

Janet Yellen:

... Because these issues are both new and complex, there is no simple rule that can prescribe, even in a general sense, how monetary policy should adjust in response to shifts in the outlook for financial stability. As a result, policymakers should clearly and consistently communicate their views on the stability of the financial system and how those views are influencing the stance of monetary policy.

To that end, I will briefly lay out my current assessment of financial stability risks and their relevance, at this time, to the stance of monetary policy in the United States. In recent years, accommodative monetary policy has contributed to low interest rates, a flat yield curve, improved financial conditions more broadly, and a stronger labor market. These effects have contributed to balance sheet repair among households, improved financial conditions among businesses, and hence a strengthening in the health of the financial sector. Moreover, the improvements in household and business balance sheets have been accompanied by the increased safety of the financial sector associated with the macroprudential efforts I have outlined. Overall, nonfinancial credit growth remains moderate, while leverage in the financial system, on balance, is much reduced. Reliance on short-term wholesale funding is also significantly lower than immediately before the crisis, although important structural vulnerabilities remain in short-term funding markets.

Taking all of these factors into consideration, I do not presently see a need for monetary policy to deviate from a primary focus on attaining price stability and maximum employment, in order to address financial stability concerns. That said, I do see pockets of increased risk-taking across the financial system, and an acceleration or broadening of these concerns could necessitate a more robust macroprudential approach. For example, corporate bond spreads, as well as indicators of expected volatility in some asset markets, have fallen to low levels, suggesting that some investors may underappreciate the potential for losses and volatility going forward. In addition, terms and conditions in the leveraged-loan market, which provides credit to lower-rated companies, have eased significantly, reportedly as a result of a "reach for yield" in the face of persistently low interest rates. The Federal Reserve, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation issued guidance regarding leveraged lending practices in early 2013 and followed up on this guidance late last year. To date, we do not see a systemic threat from leveraged lending, since broad measures of credit outstanding do not suggest that nonfinancial borrowers, in the aggregate, are taking on excessive debt and the improved capital and liquidity positions at lending institutions should ensure resilience against potential losses due to their exposures. But we are mindful of the possibility that credit provision could accelerate, borrower losses could rise unexpectedly sharply, and that leverage and liquidity in the financial system could deteriorate. It is therefore important that we monitor the degree to which the macroprudential steps we have taken have built sufficient resilience, and that we consider the deployment of other tools, including adjustments to the stance of monetary policy, as conditions change in potentially unexpected ways.

Conclusion In closing, the policy approach to promoting financial stability has changed dramatically in the wake of the global financial crisis. We have made considerable progress in implementing a macroprudential approach in the United States, and these changes have also had a significant effect on our monetary policy discussions. An important contributor to the progress made in the United States has been the lessons we learned from the experience gained by central banks and regulatory authorities all around the world. The IMF plays an important role in this evolving process as a forum for representatives from the world's economies and as an institution charged with promoting financial and economic stability globally. I expect to both contribute to and learn from ongoing discussions on these issues.

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