The Jackson Hole symposium should embace lower inflation

Later this week the world’s central banks will gather at the economics symposium of the US Kansas Federal Reserve at Jackson Hole in Wyoming. The description can be found below.

The 2017 Economic Symposium, “Fostering a Dynamic Global Economy,” will take place Aug. 24-26, 2017.  (The program will be available at 6 p.m., MT, Aug. 24, 2017).

It is appropriate that they do not yet know the program as the world’s central bankers find themselves at a variety of crossroads which they are approaching from different directions. It is also true that after all their expansionary monetary policy and “masters ( and mistresses) of the universe” activities over the last decade or so they now approach one of the most difficult decisions which is how to exit these programs. For some this will simply mean a slowing of the expansion. This all looks very different to when a speech on Forward Guidance was eagerly lapped up by a receptive audience and quickly became policy in many countries. After all Open Mouth Operations make a central banker feel both loved and important as we all hang on every word. Oh and there is a clear irony in the title of “Fostering a Dynamic Global Economy” for a group of people whose propping up of many zombie banks has led to anything but. That is of course assuming anyone knows what the phrase means in practice!

The inflation issue

The issue here is highlighted by this from Bloomberg today.

The world’s top central bankers head to Jackson Hole amid growing unease about low inflation.

Of course central bankers and those in the media subject to their brainwashing program may think this but the ordinary worker and consumer will be relieved. Should any of the central bankers suffer from stomach problems no doubt they will be delighted to discover this from CNBC.

Hikma Pharmaceuticals Plc’s U.S. subsidiary has raised the price of a common diarrhea drug by more than 400 percent and is charging more for five other medicines as well, the Financial Times reported on Sunday……The average wholesale price of a 60 ml bottle of liquid Atropine-Diphenoxylate, a common diarrhea drug also known as Lomotil, went from about $16 a bottle to $84, the FT reported.

Central banker heaven apparently and what needs looking into in my opinion is the clear examples of price gouging we see from time to time. Also more mundane products are seeing price rises. From Mining.com last week.

The iron ore price is now trading up a whopping 43% from its 2017 lows struck just two months ago.

According to Yuan Talks the Dalian futures contract rose 6.6% today before price limits kicked in. It is not alone as the Nikkei Asian Review points out.

Three-month zinc futures were at their highest level in 10 years, at about $3,100 per ton, rising 26% over the same period.
Aluminum also rose 10% over the same period.

So as well as raising a smile on the face of the heads of the central banks of Canada and Australia there are hints of some commodity inflation about. This provides a counterpoint to the concerns about low inflation which in the Euro area and the US is not that far below especially when we allow for the margin of error.

Does QE lead to inflation?

Some care is needed here as of course we have seen waves of asset price inflation across a wide range of countries. But of course the statistical policy across most of the world is to avoid measuring that in consumer inflation. Then it can be presented as growth which for some it is but not for example for first time buyers. However one of the building blocks of economics 101 is that QE ( Quantitative Easing) leads to inflation. Yet the enormous programs in the US and the ongoing one in the Euro area have not got consumer inflation back to target and the leader of the pack in this regard Japan has 0% inflation. After all the money involved has it simply led to price shifts? That is especially awkward for Ivory Tower theorists as they are not supposed to be able to happen with ~0% inflation so I guess they sent their spouse out to fill up the car as the petrol/diesel price fell.

More deeply whilst the initial effect of QE should have some inflationary implications is there something in it such as the support of a zombie business culture that means inflation the fades. It could of course be something outside of the monetary environment such as changing demographics involving ageing populations. Perhaps it was those two factors which broke the Phillips Curve.

As to future prospects there are two issues at play. The US Federal Reserve will start next month on an exit road which I remember suggesting for the Bank of England in City-AM some 4 years ago. If you do not want QE to become a permanent feature of the economic landscape you have to start somewhere. The issue for the ECB is getting more complex mostly driven by the fiscal conservatism of Germany which means that a supply crunch is looming as it faces the prospect of running out of German bonds to buy.

Currency Wars

There are two specific dangers here which relate to timing ( during thin summer markets) and the fact that markets hang on every central banking word. Eyes will be on the Euro because it has been strong in 2017 and in particular since mid April when it did not quite touch 93 on its effective ( trade-weighted) index as opposed to the 98.7 the ECB calculated it at on Friday. It has put another squeeze on the poor battered UK Pound £ but of more international seriousness is yet another example of a problem for economics 101 as interest-rate rises should have the US Dollar rising. Of course there is a timing issue as the US Dollar previously rose anticipating this and maybe more, but from the point of Mario Draghi and the ECB there is the fear that cutting the rate of QE further might make the Euro rally even more. Although one might note that in spite of the swings and roundabouts along the way the Euro at 98.7 is not far away from where it all began.

The Bank of Japan is also facing a yen rallying against the US Dollar and this morning it briefly rose into the 108s versus the US Dollar. Whilst it is lower than this time last year the trend seemed to change a few months back and the Yen has been stronger again.

Comment

It is hard not to have a wry smile at a group of people who via Forward Guidance and Open Mouth Operations have encouraged markets to hang on their every word now trying to downplay this. If you create junkies then you face the choice between cold turkey or a gradual wind down. Even worse you face the prospect of still feeding addiction number one when a need for number two arises as sooner or later an economic slow down will be along. Or creating fears about low inflation when the “lost decades” of Japan has shown that the world does not in fact end.

If we move onto the concept of a total eclipse then I am jealous of those in the United States today. From Scientific American.

Someone said that it is like suddenly being in some sort of CGI of another world or maybe like a drug-induced hallucination that feels (and is) totally real.

No they have not switched to central banking analysis but if the excellent BBC 4 documentary ”  do we really need the moon?” is any guide we should enjoy solar eclipses whilst we still have them. Meanwhile of course there is Bonnie Tyler.

I don’t know what to do and I’m always in the dark
We’re living in a powder keg and giving off sparks.

 

 

 

 

Is housing a better investment than equities?

As you can imagine articles on long-term real interest-rates attract me perhaps like a moth to a flame. Thank you to FT Alphaville for drawing my attention to an NBER paper called The Rate of Return on Everything,but not for the reason they wrote about as you see on the day we get UK Retail Sales data we get a long-term analysis of one of its drivers. This is of course house prices and let us take a look at what their research from 16 countries tells us.

Notably, housing wealth is on average roughly one half of national wealth in a typical economy, and can fluctuate significantly over time (Piketty, 2014). But there is no previous rate of return database which contains any information on housing returns. Here we build on prior work on housing prices (Knoll, Schularick, and Steger, 2016) and new data on rents (Knoll, 2016) to offer an augmented database which can track returns on this important component of national wealth.

They look at a wide range of countries and end up telling us this.

Over the long run of nearly 150 years, we find that advanced economy risky assets have performed strongly. The average total real rate of return is approximately 7% per year for equities and 8% for housing. The average total real rate of return for safe assets has been much lower, 2.5% for bonds and 1% for bills.

If you look at the bit below there may well be food for thought as to why what we might call the bible of equity investment seems to have overlooked this and the emphasis is mine.

These average rates of return are strikingly consistent over different subsamples, and they hold true whether or not one calculates these averages using GDP-weighted portfolios. Housing returns exceed or match equity returns, but with considerably lower volatility—a challenge to the conventional wisdom of investing in equities for the long-run.

Higher returns and safer? That seems to be something of a win-win double to me. Here is more detail from the research paper.

Although returns on housing and equities are similar, the volatility of housing returns is substantially lower, as Table 3 shows. Returns on the two asset classes are in the same ballpark (7.9% for housing and 7.0% for equities), but the standard deviation of housing returns is substantially smaller than that of equities (10% for housing versus 22% for equities). Predictably, with thinner tails, the compounded return (using the geometric average) is vastly better for housing than for equities—7.5% for housing versus 4.7% for equities. This finding appears to contradict one of the basic assumptions of modern valuation models: higher risks should come with higher rewards.

Also if you think that inflation is on the horizon you should switch from equities to housing.

The top-right panel of Figure 6 shows that equity co-moved negatively with inflation in the 1970s, while housing provided a more robust hedge against rising consumer prices. In fact, apart from the interwar period when the world was gripped by a general deflationary bias, equity returns have co-moved negatively with inflation in almost all eras.

A (Space) Oddity

Let me start with something you might confidently expect. We only get figures for five countries where an analysis of investable assets was done at the end of 2015 but guess who led the list? Yes the UK at 27.5% followed by France ( 23.2%), Germany ( 22.2%) the US ( 13.3%) and then Japan ( 10.9%).

I have written before that the French and UK economies are nearer to each other than the conventional view. Also it would be interesting to see Japan at the end of the 1980s as its surge ended and the lost decades began wouldn’t it? Indeed if we are to coin a phrase “Turning Japanese” then this paper saying housing is a great investment could be at something of a peak as we remind ourselves that it is the future we are interested as looking at the past can hinder as well as help.

The oddity is that in pure returns the UK is one of the countries where equities have out performed housing returns. If we look at since 1950 the returns are 9.02% per year and 7.21% respectively. Whereas Norway and France see housing returns some 4% per annum higher than equities. So the cunning plan was to invest in French housing? Maybe but care is needed as one of the factors here is low equity returns in France.

Adjusted Returns

There is better news for UK housing bulls as our researchers try to adjust returns for the risks involved.

However, although aggregate returns on equities exceed aggregate returns on housing for certain countries and time periods, equities do not outperform housing in simple risk-adjusted terms……… Housing provides a higher return per unit of risk in each of the 16 countries in our sample, and almost double that of equities.

Fixed Exchange Rates

We get a sign of the danger of any correlation style analysis from this below as you see this.

Interestingly, the period of high risk premiums coincided with a remarkably low-frequency of systemic banking crises. In fact, not a single such crisis occurred in our advanced-economy sample between 1946 and 1973.

You see those dates leapt of the page at me as being pretty much the period of fixed(ish) exchange-rates of the Bretton Woods period.

Comment

There is a whole litany of issues here. Whilst we can look back at real interest-rates it is not far off impossible to say what they are going forwards. After all forecasts of inflation as so often wrong especially the official ones. Even worse the advent of low yields has driven investors into index-linked Gilts in the UK as they do offer more income than their conventional peers and thus they now do not really represent what they say on the tin. Added to this we now know that there is no such thing as a safe asset more a range of risks for all assets. We do however know that the risk is invariably higher around the time there are public proclamations of safety.

Moving onto the conclusion that housing is a better investment than equities then there are plenty of caveats around the data and the assumptions used. What may surprise some is the fact that equities did not win clearly as after all we are told this so often. If your grandmother told you to buy property then it seems she was onto something! As to my home country the UK it seems that the Chinese think the prospects for property are bright. From Simon Ting.

From 2017-5-11 90 days, Chinese buyers (incl HK) spent 3.6 bln GBP in London real estate.
Anyway, Chinese is the #1 London property buyer.

Perhaps the Bitcoin ( US $4456 as I type this) London property spread looks good. Oh and as one of the few people who is on the Imputed Rent trail I noted this in the NBER paper.

Measured as a ratio to GDP, rental income has been growing, as Rognlie (2015) argues.

Meanwhile as in a way appropriately INXS remind us here is the view of equity investors on this.

Mystify
Mystify me
Mystify
Mystify me

UK Retail Sales

There is a link between UK house prices and retail sales as we note that both have slowed this year.

The quantity bought increased by 1.3% compared with July 2016; the 51st consecutive year-on-year increase in retail sales since April 2013.

 

 

 

 

Whatever happened to savers and the savings ratio?

A feature of the credit crunch era has been the fall and some would say plummet in quite a range of interest-rates and bond yields. This opened with central banks cutting official short-term interest-rates heavily in response to the initial impact with the Bank of England for example trimming around 4% off its Bank Rate to reduce it to 0.5%. If we go to market rates the drop was even larger because it is often forgotten now that one-year interest-rates in the UK rose to 7% for around a year or so as the credit crunch built up in what was a last hurrah of sorts for savers. Next central banks moved to reduce bond yields via purchases of sovereign bonds via QE ( Quantitative Easing) programmes. In the UK this was followed by some Bank of England rhetoric heading towards the First World War pictures of Lord Kitchener saying your country needs you.

Here is Bank of England Deputy Governor Charlie Bean from September 2010.

“What we’re trying to do by our policy is encourage more spending. Ideally we’d like to see that in the form of more business spending, but part of the mechanism … is having more household spending, so in the short-term we want to see households not saving more but spending more’.

Our Charlie was keen to point out that this was a temporary situation.

“It’s very much swings and roundabouts. At the current juncture, savers might be suffering as a result of bank rate being at low levels, but there will be times in the future — as there have been times in the past — when they will be doing very well.

Mr.Bean was displaying his usual forecasting accuracy here as of course savers have seen only swings and no roundabouts as the Bank Rate got cut even further to 0.25% and the £79.6 billion of the Term Funding Scheme means that banks rarely have to compete for their deposits. This next bit may put savers teeth on edge.

“Savers shouldn’t see themselves as being uniquely hit by this. A lot of people are suffering during this downturn … Savers shouldn’t necessarily expect to be able to live just off their income in times when interest rates are low. It may make sense for them to eat into their capital a bit.”

In May 2014 Charlie was at the same game according to the Financial Times.

BoE’s Charlie Bean expects 3% interest rate within 5 years

There is little sign of that so far although of course Sir Charlie is unlikely to be bothered much with his index-linked pension worth around £4 million if I recall correctly plus his role at the Office for Budget Responsibility.

House prices

I add this in because the UK saw an establishment move to get them back into buying houses. This involved subsidies such as the Bank of England starting the Funding for Lending Scheme in the summer of 2013 to reduce mortgage rates ( by around 1% initially then up to 2%) which continues with the Term Funding Scheme. Also there was the Help to Buy Scheme of the government. I raise these because why would you save when all you have to do is buy a house and the price accelerates into the stratosphere?

The picture on saving gets complex here. Some may save for a deposit but of course the official pressure for larger deposits soon faded. Also the net worth gains are the equivalent of saving in theoretical terms at least but only apply to some and make first time buyers poorer. Also care is needed with net worth gains as people can hardly withdraw them en masse and what goes up can come down. Furthermore there are regional differences here as for example the gains are by far the largest in London which leads to a clear irony as official regional policy is supposed to be spreading wealth, funds and money out of London.

There is also the issue of rents as those affected here have no house price gains to give them theoretical wealth. However the impact of the fact that real wages are still below the credit crunch peak has meant that rents have increasingly become reported as a burden. So the chance to save may be treated with a wry smile by those in Generation rent especially if they are repaying Student Loans.

Share Prices

This is a by now familiar situation. If we skip for a moment the issue of whether it involves an investment or saving as it is mostly both we find yet another side effect of central bank action. In spite of the recent impact of the North Korea situation stock markets are mostly at or near all time highs. The UK FTSE 100 is still around 7300 which is good for existing shareholders but perhaps not so good for those planning to save.

Number Crunching

There are various ways of looking at the state of play or rather as to what the state of play was as we are at best usually a few months behind events. From the Financial Times at the end of June.

UK households have responded to a tight squeeze on incomes from rising inflation, taxes and falling wages by saving less than at any time in at least 50 years. According to new figures from the Office for National Statistics, 1.7 per cent of income was left unspent in the first quarter of 2017, the lowest savings ratio since comparable records began in 1963.

This compares to what?

The savings ratio has averaged 9.2 per cent of disposable income over the past 54 years,

Some of the move was supposed to be temporary which poses its own question but if we move onto July was added to by this.

In Quarter 1 2017, the households and NPISH saving ratio on a cash basis fell to negative 4.8%, which implies that households and NPISH spent more than they earned in income during the quarter.

The above number is a new one which excludes “imputed” numbers a trend I hope will spread further across our official statistics. It also came with a troubling reminder.

This is the lowest quarterly saving ratio on a cash basis since Quarter 1 2008, when it was negative 6.7%.

As they say on the BBC’s Question of Sport television programme, what happened next?

The United States

We in the UK are not entirely alone as this from the Financial Times Alphaville section a week ago points out.

Newly revised data from the Bureau of Economic Analysis show that American consumers have spent the past two years embracing option 2. The average American now saves about 35 per cent less than in 2015……….Not since the beginning of 2008 have Americans saved so little — and that’s before accounting for inflation.

Comment

One of the features of the credit crunch was that central banks changed balance between savers and debtors massively in the latter’s favour. Measure after measure has been applied and along this road the claims of “temporary” have looked ever more permanent. Therefore it is hardly a surprise that savings seem to be out of favour just as it is really no surprise that unsecured credit has been booming. It is after all official policy albeit one which is only confessed to in back corridors and in the shadows. After all look at the central bank panic when inflation fell to ~0% and gave savers some relief relative to inflation. If we consider inflation there has been another campaign going on as measures exclude the asset prices that central banks try to push higher. Fears of bank deposits being confiscated will only add to all of this.

Meanwhile as we find so often the numbers are unreliable. In addition to the revisions above from the US I note that yesterday Ireland revised its savings ratio lower and the UK reshuffled its definitions a couple of years or so ago. I do not know whether to laugh or cry at the view that the changed would boost the numbers?! I doubt the ch-ch-changes are entirely a statistical illusion but the scale may be, aren’t you glad that is clear? We are left mulling what is saving? What is investment?

But we travel a road where many cheerleaders for central bank actions now want us to panic over an entirely predictable consequence. Or to put it another way that poor battered can that was kicked into the future trips us up every now and then.

 

 

 

When will real wages finally rise?

One of the main features of the credit crunch era has been weak and at times negative real wage growth. This was hardly a surprise when the employment situation deteriorated but many countries have seen strong employment gains over the past few years and in some employment is now at a record high. Yet wage growth has been much lower than would have been expected in the past. As so often the leader of the pack in a race nobody wants to win has been Japan although there has been claim after claim that this is about to turn around as this from Bloomberg in May indicates.

It’s not making headlines yet, but wages in Japan are rising the fastest in decades, in a shift that’s poised to divide the nation’s companies — and their stocks — into winners and losers, according to Morgan Stanley.

No doubt this was based on the very strong quantity numbers for the Japanese economy which if we move forwards in time to now show an unemployment rate of 2.8% and a jobs per applicant ratio summarised below by Japan Macro Advisers.

Japan’s job offers to applicant ratio rose to 1.51 in June from 1.49 in May. The ratio is the highest in the last 43 years since 1974. While the number of job offers continue to rise along with the expansion in the economy, the number of job applicants are falling. With the shrinking population, Japan simply does not have a resource to meet the demand for labor.

I can almost feel the wind of the Ivory Towers rushing past to predict a rise in wages in such a situation. They will be encouraged by this from the Nikkei Asian Review on Friday.

The labor shortage created by stronger economic growth has prompted many companies to raise wages. Tokyo Electron, a semiconductor production equipment manufacturer, is a good example.

Tokyo Electron introduced a new personnel system on July 1 in which salaries reflect the roles and responsibilities of employees. Under the new system salaries will rise, primarily for junior and midlevel employees. The change will raise the total wages paid to the company’s 7,000 employees in Japan by about 2 billion yen ($18.1 million) annually.

This is something we see regularly where the media presents a company that is toeing the official line and raising wages. But I note that it is doing particularly well and expecting record profits so is unlikely to be typical. By contrast I note that there is another way of dealing with a labour shortage.

In April, Lumine, a shopping center operator, responded to an employee shortage among its tenants by closing 30 minutes earlier at 12 locations, or 80% of its stores. The risk was that shorter operating hours would cut revenue, but Lumine sales held steady in the April-June quarter.

Awkward that in many ways as for example productivity has just been raised with total wages cut.

What about the official data?

I will let The Japan Times take up the story.

Japan’s June real wages decreased 0.8 percent from a year before in the first fall in three months, labor ministry data showed Friday.
Nominal wages including bonuses fell 0.4 percent to ¥429,686 ($3,880), the first drop in 13 months, the Health, Labor and Welfare Ministry said in a preliminary report.

Up is the new down one more time. Also the official story that bonuses are leading growth due to a strong economy met this.

due mainly to a 1.5 percent decrease in bonuses and other special payments.

There is one quirk however which is that part-time wages are doing much better and rising at an annual rate of 3.1%. The catch is that you would not leave a regular job in Japan because those wages are lower and to some extent are catching up. How very credit crunch that to get wage growth you have to take a pay cut! Indeed to get work people had to take pay cuts. From the Nikkei Asian Review.

Japanese companies hired more relatively low paid nonregular employees during the prolonged period of deflation.

Now we find ourselves reviewing two apparently contradictory pieces of data.

 The number of workers in Japan increased by 1.85 million between 2012 and 2016……….Japan’s wage bill was 7% lower in May than at the end of 1997 — before deflation took hold.

Australia

You might not think that there would be issues here as of course the commodity price boom driven by Chinese demand has led to a boon for what we sometimes call the South China Territories. Indeed this from @YuanTalks will have looked good from Perth this morning.

The rally in industrial continues in . rebar limit up, surging over 6%

Yet according to the Sydney Morning Herald this is the state of play for wages.

But since 2012 and 2013, Australian workers have felt stuck in a holding pattern of slow wages growth. Wages for the whole economy increased by 1.9 per cent in the year to March just in line with inflation.

There are familiar issues on the over side of the balance sheet.

Families are also wrestling with rising electricity prices, skyrocketing property prices and high demand for accommodation has also forced up rents.

Even the professional sector has been hit.

When Sahar Khalili started work as a casual pharmacist eight years ago, she was paid $35 an hour. Over the years that has fallen to as low as $30 while her rent has more than doubled.

Actually there is something rather disturbing if we drill into the detail as productivity has done quite well in Australia ( presumably aided by the commodity boom) but wages have not followed it leading to this.

The typical Australian family takes home less today than it did in 2009, according to the latest Household Income and Labour Dynamics survey released this week.

These surveys are invariably a couple of years behind where we are but there are questions to say the least. Oh and the shrinkflation saga has not escaped what might be called a stereotypically Australian perspective.

“My beers are getting smaller,” he says.

The USA

Friday brought us the labour market or non farm payroll numbers. In it we saw that wage growth ( average hourly earnings) was at an annual rate of 2.5% which is getting to be a familiar number. There is a little real wage growth but not much which is provoking ever more food for thought as employment rises and unemployment falls. Indeed more and more are concentrating on developments like this reported by Forbes.

Starting pay at the Amazon warehouse, carved out of a large lot with a new road called Innovation Way designed for Amazon-bound trucks, is at $12.75, no degree required. For inventory managers with warehousing experience, the pay is $14.70 an hour and requires a bachelor’s degree.

The new warehouse offers 30 hour a week jobs because they slip under the state legislation on provision of benefits. In some parts of America they would qualify under the food stamp programme. No wonder that as of May some 41.5 million still qualified.

Yet the Wall Street Journal describes it thus.

a vastly improved labor market

Comment

This is a situation we have looked at many times and there is much that is familiar. Firstly the Ivory Towers have invented their own paradise where wages rise due to a falling output gap and when reality fails to match that they simply project it forwards in time. The media tends to repeat that. But if we consider the dangers of us turning Japanese we see that wages there are lower than 20 years ago in spite of very low unemployment levels. Over the past 4 years or so this has been always just about to turn around as Abenomics impacts.

My fear is that unless something changes fundamentally ( cold fusion, far superior battery technology etc..) real wages may flat line for some time yet. All the monetary easing in the world has had no impact here.

 

 

 

What is happening in the US economy?

It has been a while since we have taken a good look at the US economy so it is overdue. This morning it has been analysed by the International Monetary Fund which has grabbed some headlines with this.

U.S. growth projections are lower than in April, primarily reflecting the assumption that fiscal policy will be less expansionary going forward than previously anticipated.

As you can see the IMF has had something of a road to Damascus change since the days it argued that Greece could expand its economy in the face of harsh austerity! Also it is hard not to have a wry smile at the thought that anyone can really predict accurately what will emerge from the Trump administration next. Of course it and the IMF are on various collision courses included this one which was mentioned in the IMF’s Friday press conference.

Since the Trump administration has been promoting its “America first” polices, Managing Director Lagarde has talked more about promoting free and fair trade policies

Returning to the forecast here are the specific numbers.

The growth forecast in the United States has been revised down from 2.3 percent to 2.1 percent in 2017 and from 2.5 percent to 2.1 percent in 2018.

In addition to  the view on fiscal policy there were concerns about this.

the markdown in the 2017 forecast reflects in part the weak growth outturn in the first quarter of the year.

That is slightly odd because as regular readers will be aware US economic growth tends to underperform in the first quarter these days. Also it is reassuring to know that the number could be either too high or too low.

Risks to the U.S. forecast are two sided: the implementation of a fiscal stimulus (such as revenue-reducing tax reform) could drive U.S. demand and output growth above the baseline forecast, while implementation of the expenditure-based consolidation proposed in the Administration’s budget would drive them lower.

So let us move on with two thoughts. The first is that if we look at the IMF’s track record it is completely incapable of forecasting economic growth to that level of accuracy. Secondly I note that the forecast for the next two years is the average of the last two.

The Nowcast

Several of the US Federal Reserves do what are called nowcasts of economic forecasts so let us head down to the good old boys and girls in Atlanta.

The GDPNow model forecast for real GDP growth (seasonally adjusted annual rate) in the second quarter of 2017 is 2.5 percent on July 19, up from 2.4 percent on July 14. The forecast of second-quarter real residential investment growth increased from -1.6 percent to -0.6 percent after this morning’s new residential construction report from the U.S. Census Bureau.

This represents an overall decline on the initial estimate of 4.3% in early May. There have been notable falls in both export expectations and investment of all types including housing combined with a dip in consumption. Perhaps the fall in exports is a response to the stronger dollar that we saw a year or so ago.

The Labour Market

This remains very strong as the latest report indicates.

Total nonfarm payroll employment increased by 222,000 in June, and the unemployment rate was little changed at 4.4 percent, the U.S. Bureau of Labor Statistics reported today.  Since January, the unemployment rate and the number of unemployed are down by 0.4 percentage point and 658,000, respectively.

As you can see in spite of the fact that we are in fact above what some would call full employment jobs are still being generated. If we move to the measure of underemployment there continue to be improvements in it as well. The U-6 measure of this has seen the rate fall from 9.6% in June 2016 to 8.6% in June ( seasonally adjusted) this although a rise in this June needs to be watched.

However as we observe so often to the sound of Ivory Towers crumbling to the ground this has not generated much wage growth.

In June, average hourly earnings for all employees on private nonfarm payrolls rose by 4 cents to $26.25. Over the year, average hourly earnings have risen by 63 cents, or 2.5 percent.

If we move to median wage growth to exclude the impact of very high earners then we see something that is becoming ever more familiar across many different countries.

We see that the good news is that the US has some real wage growth but the bad news is that it is not that great. The numbers if we return to averages are below.

Real average hourly earnings for all private nonfarm employees increased 0.8 percent from June 2016 to June 2017. The increase in real average hourly earnings combined with a 0.3-percent increase in the average workweek resulted in a 1.1-percent increase in real average weekly earnings over the year.

Not much is it? If we look back on the chart above we see higher levels that it looked briefly we might regain but in spite of further employment improvements we are now left mulling wage growth fading and wondering how much it and inflation will dip. At this point it is hard not to wonder also about the impact of the “lost workers” from the around 4% fall in the labour force participation rate.

Monetary policy

This is of course being “normalised” which at a time when nobody really has any idea of what normal is anymore is therefore easy to claim. An interest rate of between 1% and 1.25% certainly does not feel normal nor does a central bank balance sheet approaching US $4.5 trillion. There are now plans to trim a minor amount off the balance sheet.

Of course this leaves everyone wondering what happened when the next recession strikes? Well everyone apart from those who believe that the central bankers have ended recessions. It looks as though bond markets have switched to wondering about that as the 30 year which had pushed above 3% is now at 2.8%. Also even the IMF has spotted that the US Dollar is in a weaker phase now.

As of end-June, the U.S. dollar has depreciated by around 3½ percent in real effective terms since March.

These moves will take a little off the edge of what tightening we have seen as I note that US consumer credit flows are in the middle of the post credit crunch range,

In May, consumer credit increased at a seasonally adjusted annual rate of 5-3/4 percent. Revolving credit increased at an annual rate of 8-3/4 percent, while nonrevolving credit increased at an annual rate of 4-3/4 percent.

Comment

A couple of years or so we discussed the likelihood that US economic growth would be around 2% going forwards and we now note that such thoughts have come true. Is that as good as it gets? The US has had one of the better recoveries from the impact of the credit crunch in terms of GDP and unemployment. We should be grateful for that. But we are again left wondering what happens should things slow or head towards a recession?

Still some will not be too bothered, from the Financial Times

Jamie Dimon and Lloyd Blankfein each enjoyed $150m-plus rises in the value of their stock and options.

Does the continuing enormous gains of the banksters go into the wages numbers?

Of weak wage growth and bond markets

Today I am going to look at some clear changes in the credit crunch era and the way that they link together. Let us start with a clear theme of these days about which there has been news this morning from the land of the rising sun. From Japan Macro Advisers.

The demand/supply condition in the labor market seems as tight as it could be. In May 2017, Japan’s job offers to applicant ratio soared to a 43-year high of 1.49. The increase in the job-offers-applicant ratio marks the third consecutive monthly rise. The current print exceeds the July 1990 levels (1.46) when the Japan economy was enjoying a bubble economy.

It makes you think that the labour market is on this measure stronger than it was than when Japan’s economy was at its peak albeit an unsustainable one. Actually on another measure the situation is so tight they need to look even further back.

New job offers to applicant ratio also show that there is simply not enough supply of labor in Japan. The new job offers to applicant ratio rose to 2.31 in May from 2.13 in the previous month. This marks the highest level of this ratio since November 1973.

As you can see by these measures the labour market is very tight in Japan and is reinforced by these ones reported by Market Insider.

The number of employed persons in May was 65.47 million, an increase of 760,000 or 1.2 percent on year.

The number of unemployed persons in May was 2.10 million, a decrease of 70,000 or 3.2 percent on year.

On the month ( May ) the unemployment rate did rise to 3.1% but as you can see the overall trend seems to be lower in spite of the fact that it is extraordinarily low. Indeed as we have discussed before theories such as the “natural rate of unemployment” or “full employment” are pretty much torpedoed by it as we mull how employment can be more than full?

But if we move to wage growth which according to econ 101 should be soaring we instead see this. From Japan Macro Advisers.

In April 2017, basic and overtime wages, otherwise known as regular wages, rose by 0.4% year on year (YoY), recovering from a decline of 0.1% YoY in March. While an increase in wages is a better news than a decline, the magnitude of the rise continues to be underwhelming.

Quite. As to the real wage growth promised by Abenomics and  reported by the financial  media?

The real wage growth, after offsetting for the inflation in consumer prices, was 0.0% YoY,

So Japan should be seeing wage growth but instead it is flat lining. If we are “Turning Japanese”  then the next bit of news is even worse you see that current wage index for full-time workers is 101 giving an initial though that there has not been much growth since it was based at 100 in 2015. But if you look back the peak in the series was 104.4 in January 2001 and no that is not a misprint.

A possible cause of this is highlighted below and it does provide food for thought as of course Japan is leading the way on a road that many others will be travelling.

The working age population in Japan, defined as the population of the age between 15 and 64, has been shrinking rapidly. In 2016, the work age population in Japan fell by 0.7 million people. Accordingly, job applicants have been declining by 5% per year in the last few years.

Moving On

If we look wider afield we see that wages are struggling beyond the shores of Japan as this from Reuters reminds us.

Wage growth across the developed world is weak. It’s only 2.5 percent in the United States and 2.1 percent in Britain.

It is interesting to note that the have real average hourly earnings falling at an annual rate of 1.3% in the US. The chart below shows that this particular dog is not barking.

Even the figures for Germany are no great shakes when we note this from this morning’s release on the labour market.

In May 2017, roughly 44.1 million persons resident in Germany were in employment according to provisional calculations of the Federal Statistical Office (Destatis). This was a record high since German reunification.

In the UK we have seen quite a change as fears of robots taking everyone’s jobs have been replaced by fears of a former Chancellor of the Exchequer doing so.

George Osborne, the editor of the Evening Standard and former chancellor of the exchequer, has added a sixth job to his portfolio – that of honorary professor of economics at the University of Manchester.

For some Friday humour here are some suggestions for George from the past.

Bond Markets

This week has seen bond markets fall as they try to adjust to a barrage of rhetoric and open mouth operations from central bankers. Those who immediately hid behind a sofa when Janet Yellen told us there would not be another financial crisis in our lifetimes will have missed U-Turns by the ECB and the Bank of England. Also there has been a rather bizarre PR campaign conducted by Bank of England Chief Economist Andy Haldane puffing him up to be the next Governor of the Bank of England on the grounds that he keeps forecasting wages incorrectly. Do I have that right?

We see that the ten-year yield in Germany has risen to 0.47% at one point this morning. If we stay with that whilst it is up that only takes it to around where it was in some of both February and March and indeed May. So not quite as being reported in many places. If we look at the UK the ten-year Gilt yield nudged 1.29% this morning. But if we step back these are very minor moves for markets that really believe what the central bankers are saying which is of course yet another failure for Forward Guidance.

Comment

I wanted to like these two factors ( wage growth and bond yields) because they provide a link to what has happened in 2017. I thought and wrote that it would be a rough year for bond markets based on rising consumer inflation whereas they appear to have looked at low rates of wage growth instead. Of course there have been all the central banking QE purchases but they were a known factor.

As to wages growth itself regular readers will be aware that I fear it is in fact worse than we are told due to the exclusion of the self-employed from the numbers. But also employment figures do not tell the whole story as this from Mario Draghi in Sintra tells us.

Another reason why there is some uncertainty over slack is the correct notion of unemployment – that is, there may be residual slack in the labour market that is not being fully captured in the headline unemployment measures. Unemployment in the euro area has risen during the crisis, but so too has the number of workers who are underemployed (meaning that they would like to work more hours) or who have temporary jobs and want permanent ones…….If one uses a broader measure of labour market slack including the unemployed, underemployed and those marginally attached to the labour force – the so-called “U6” – that measure currently covers 18% of the euro area labour force.

Maybe the weak wage growth is much less of a surprise than we are often told. Especially as it comes with an implied kicker that everything is okay due to this. From Reuters.

In the United States, household net wealth has soared by $40 trillion since the beginning of the expansion in 2009 to $95 trillion from $55 trillion. It is up $11 trillion in just the last two years.

Well that’s okay then is the message, except it isn’t or we would not be where we are.

 

 

The problems facing inflation targets

Today I wish to discuss something which if it was a plant we would call a hardy perennial. No I do not mean Greece although of course there has been another “deal” which extends the austerity that was originally supposed to end in 2020 to 2060 in a clear example along the lines of To Infinity! And Beyond! Nor do I mean the Bank of Japan which has announced it will continue to chomp away on Japanese assets. What I mean is central bankers and members of the establishment who conclude that an inflation target of 2% per annum is not enough and it needs to be raised. The latest example has come from the chair of the US Federal Reserve Janet Yellen. From Reuters.

Years of tepid economic recovery have Fed Chair Janet Yellen and other central bankers considering what was once unthinkable: abandoning decades-long efforts to hold inflation down and allowing price expectations to creep up.

I am not sure if the author has not been keeping up with current events or has been drinking the Kool Aid because since early 2012 the US Federal Reserve has been trying to get inflation up to its 2% per annum target. It managed it for the grand sum of one month earlier this year before it started slip sliding away again. Indeed for a while the inflation target was raised to 2.5% which achieved precisely nothing which is why the change has mostly been forgotten. From December 2012.

inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee’s 2 percent longer-run goal,

Of course the Bank of Japan has been trying to raise inflation pretty much since the lost decade(s) began. Anyway here is Reuters again on the current thinking of Janet Yellen.

In remarks on Wednesday, Yellen called an emerging debate over raising global inflation targets “one of the most important questions facing monetary policy,” as central bankers grapple with an economic rut in which low growth, low interest rates and weak price and wage increases reinforce each other.

There is a clear problem with that paragraph as this week’s UK data has reminded us “weak price” increases boosted both retail sales and consumption via the way they boosted real wages. The rationale as expressed below is that we are expected to be none too bright.

The aim would be a change of households’ and businesses’ psychology, convincing them that prices would rise fast enough in the future that they would be better off borrowing and spending more today……..Raising that target to 3 or even 4 percent as some economists have suggested would shift the outlook of firms in particular, allowing them to charge more for goods and pay more for labor without the fear that a central bank would step on the brakes.

They are relying on us being unable to spot that the extra money buys less. Oh and after the utter failure of central bank Forward Guidance particularly in the UK you have my permission to laugh at the Ivory Tower style idea that before they do things consumers and businesses stop to wonder what Mark Carney or Janet Yellen might think or do next!

The theme here is along the lines set out by this speech from John Williams of the San Francisco Fed last September.

The most direct attack on low r-star would be for central banks to pursue a somewhat higher inflation target. This would imply a higher average level of interest rates and thereby give monetary policy more room to maneuver. The logic of this approach argues that a 1 percentage point increase in the inflation target would offset the deleterious effects of an equal-sized decline in r-star.

In John’s Ivory Tower there is a natural rate of interest called r-star.

Meanwhile in the real world

Whilst I am a big fan of Earth Wind and Fire I caution against using their lyrics too literally for policy action.

Take a ride in the sky
On our ship, fantasize
All your dreams will come true right away

You see if we actually look at the real world there is an issue that in spite of all the monetary easing of the credit crunch era we have not seen the consumer inflation that central bankers were both planning and hoping for. The Federal Reserve raised its inflation target as described above in December 2012 because it was expecting “More,More, More” but it never arrived. For today I will ignore the fact that inflation did appear in asset markets such as house prices because so many consumer inflation measures follow the advice “look away now” to that issue.

If we move to the current situation and ignore the currency conflicted UK we see that there is a danger for central bankers but hope for the rest of us that inflationary pressure is fading. A sign of that has come from Eurostat this morning.

Euro area annual inflation was 1.4% in May 2017, down from 1.9% in April.

Tucked away in the detail was the fact that energy costs fell by 1.2% on the month reducing the annual rise to 4.5% from the much higher levels seen so far in 2017. As we look at a price for Brent Crude Oil of US $47 per barrel we see that if that should remain there then more of this can be expected as 2017 progresses. That is of course an “if” but OPEC does seem to have lost at least some of its pricing power.

Actually today’s data posed yet another problem for the assumptions of central bankers and the inhabitants of Ivory Towers. We have been seeing am improvement in the Euro area economy as 2016 moved in 2017 so we should be seeing higher wage increases according to economics 101. From Eurostat.

In the euro area, wages & salaries per hour worked grew by 1.4%…., in the first quarter of 2017 compared with the same quarter of the previous year. In the fourth quarter of 2016, the annual change was +1.6%

What if our intrepid theorists managed to push inflation higher and wages did not rise? A bit like the calamity the Bank of England ignored back in 2010/11. As an aside a particular sign that the world has seen a shift in its axis is the number from Spain which for those unaware is seeing a burst of economic growth. Yet annual wage growth is the roundest number of all at 0%.

Comment

Much has changed in the credit crunch era but it would appear that central bankers are at best tone-deaf to the noise. We have seen rises in inflation target as one was hidden in the UK switch to CPI from RPI ( ~0.5% per annum) and the US had a temporary one as discussed above and a more permanent one when it switched from the CPI to PCE measure back in 2000 ( ~ 0.3% per annum). I do not see advocates of higher inflation target claiming these were a success so we can only assume there are hoping we will not spot them.

The reality is quite simple the logical response to where we are now would be to reduce inflation targets rather than raise them. Another route which would have mostly similar effects would be to put house prices in the various consumer inflation measures.

Oh and something I thought I would keep for the end. have you spotted how the US Federal Reserve sets its own targets? I wonder how that would work in the era of the Donald?!

Music for traders

My twitter feed has been quite busy with suggestions of songs for traders. All suggestions welcome.