Mediocre Growth, Raw Materials Shock and the Threat of Stagflation
Carlos M. Pelaez
© Carlos M. Pelaez, 2010, 2011
The objective of this post is to relate mediocre growth in the US to the world raw materials shock and the threat of stagflation. The contents are as follows:
I Mediocre Growth
II Raw Materials Shock
III The Threat of Stagflation
IV Risk Financial Assets
V Economic Indicators
VI Interest Rates
References
I Mediocre Growth. Chairman Bernanke is quoted by the FCIC (2011R, 382) as stating:
“As a scholar of the Great Depression, I honestly believe that September and October 2008 was the worst financial crisis in global history, including the Great Depression. If you look at the firms that came under pressure in that period…only one…was not at serious risk of failure…So out of maybe the 13, 13 of the most important financial institutions in the United States, 12 were at risk of failure within a period of a week or two.”
Comparisons of the credit/dollar crisis and global recession with the Great Depression are typically misleading and not rare. For example, Modigliani (1988, 399) states that in a speech President Reagan “began by suggesting that ‘we are in the worst economic mess since the Great Depression,’ a statement that an objective review of the situation would find highly exaggerated.” Much the same occurs currently in comparisons with the 1930s that provide some of the widest fluctuations of events and data required for economic research. US GDP in constant dollars fell 8.6 percent in 1930, 6.4 percent in 1931, 13.0 percent in 1932 and 1.3 percent in 1934 for a cumulative contraction of 26.5 percent and GDP in current dollars contracted by 48.9 percent (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 150-1; Pelaez and Pelaez, Globalization and the State, Vol. II (2008b), 205-7; for review of the academic literature on the Great Depression see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 198-217). About 40 percent of commercial banks in the US in 1929-1933, or 9440, were suspended, 79 percent of which were state banks and 21 percent national banks (Mitchener 2005, 156).
The main theme of the G20 meeting of finance ministers and governors of central banks in Paris on Feb 18-19 was the issue of global imbalances (http://www.g20.utoronto.ca/2011/2011-finance-110219-fr.html). This theme has recurred over a decade (Pelaez and Pelaez, International Financial Architecture (2005), 1-62, The Global Recession Risk (2007), Globalization and the State, Vol. II (2008b) 180-213, Government Intervention in Globalization (2008c), 167-84). In a key analysis of the global imbalances, Obstfeld and Rogoff (2005, 6) find:
“The end of the 1980s witnessed a 40 percent decline in the trade weighted dollar as the Reagan-era current account deficit closed up. Yet, the change was arguably relatively benign (though some would say that Japan’s macroeconomic response to the sharp appreciation of the yen in the late 1980s helped plant the seeds of the prolonged slump that began in the next decade). However, it may ultimately turn out that the early-1970s dollar collapse following the breakdown of the Bretton Woods system is a closer parallel. Then, as now, the United States was facing open-ended security costs, rising energy prices, a rise in retirement program costs, and the need to rebalance monetary policy.”
Historical parallels are instructive but have all the limitations of empirical research in economics. The more instructive comparisons are not with the Great Depression of the 1930s but rather with the recessions in the 1950s, 1970s and 1980s.
The growth rate and job creation in the expansion of the economy away from recession are subpar in the current expansion compared to others in the past. Four recessions are initially considered, following the reference dates of the National Bureau of Economic Research (NBER) (http://www.nber.org/cycles/cyclesmain.html ): IIQ1953-IIQ1954, IIIQ1957-IIQ1958, IIIQ1973-IQ1975 and IQ1980-IIIQ1980. The data for the earlier contractions illustrate that the growth rate and job creation in the current expansion are inferior. The sharp contractions of the 1950s and 1970s are considered in Table 1, showing the Bureau of Economic Analysis (BEA) quarter-to-quarter, seasonally adjusted (SA), yearly-equivalent growth rates of GDP. The recovery from the recession of 1953 consisted of four consecutive quarters of high percentage growth rates from IIIQ1954 to IIIQ1955: 4.6, 8.3, 12.0, 6.8 and 5.4. The recession of 1957 was followed by four consecutive high percentage growth rates from IIIQ1958 to IIQ1959: 9.7, 9.7, 8.3 and 10.5. The recession of 1973-1975 was followed by high percentage growth rates from IIQ1975 to IIQ1976: 6.9, 5.3, 9.4 and 3.0.
Table 1, Quarterly Growth Rates of GDP, % Annual Equivalent SA
| IQ | IIQ | IIIQ | IVQ | |
| 1953 | 7.7 | 3.1 | -2.4 | -6.2 |
| 1954 | -1.9 | 0.5 | 4.6 | 8.3 |
| 1955 | 12.0 | 6.8 | 5.4 | 2.3 |
| 1957 | 2.5 | -1.0 | 3.9 | -4.1 |
| 1958 | -10.4 | 2.5 | 9.7 | 9.7 |
| 1959 | 8.3 | 10.5 | -0.5 | 1.4 |
| 1973 | 10.6 | 4.7 | -2.1 | 3.9 |
| 1974 | 3.5 | 1.0 | -3.9 | 6.9 |
| 1975 | -4.8 | 3.1 | 6.9 | 5.3 |
| 1976 | 9.4 | 3.0 | 2.0 | 2.9 |
| 1979 | 0.7 | 0.4 | 2.9 | 1.1 |
| 1980 | 1.3 | -7.9 | -0.7 | 7.6 |
The NBER dates another recession in 1980 that lasted about half a year. If the two recessions from IQ1980s to IIIQ1980 and IIIQ1981 to IVQ 1982 are combined, the impact on lost GDP is comparable to the revised 4.1 percent drop of the recession from IVQ2007 to IIQ2009. The recession in 1981-1982 is quite similar on its own to the 2007-2009 recession. Table 2 provides the BEA quarterly growth rates of GDP in SA yearly equivalents for the recessions of 1981-1982 and 2007 to 2009. There were four quarters of contraction in 1981-1982 ranging in rate from -1.5 percent to -6.4 percent and five quarters of contraction in 2007-2009 ranging in rate from -0.7 percent to -6.8 percent. The striking difference is that in the first six quarters of expansion from IQ1983 to IIQ1984 GDP grew at the high quarterly percentage growth rate of 5.1, 9.3, 8.1, 8.5, 7.1 and 3.9 while the percentage growth rate in the first six quarters from IIIQ2009 to IVQ2010 was mediocre: 1.6, 5.0, 3.7, 1.7, 2.6 and 2.8. The data in this and the following tables incorporate the second estimate of IVQ2010 by the BEA, lowering the rate of growth of GDP from 3.2 to 2.8 percent. Inventory change contributed to initial growth but was rapidly replaced by growth in investment and demand in 1983. The key difference may be found in the negative incentive to business and household investment and business hiring from the structural shock to business models resulting from legislative restructurings and regulation with alleged benefits in the long-term but adverse short-term growth and jobs effects.
Table 2, Quarterly Growth Rates of GDP, % Annual Equivalent SA
| Q | 1981 | 1982 | 1983 | 1984 | 2008 | 2009 | 2010 |
| I | 8.6 | -6.4 | 5.1 | 7.1 | -0.7 | -4.9 | 3.7 |
| II | -3.2 | 2.2 | 9.3 | 3.9 | 0.6 | -0.7 | 1.7 |
| III | 4.9 | -1.5 | 8.1 | 3.3 | -4.0 | 1.6 | 2.6 |
| IV | -4.9 | 0.3 | 8.5 | 5.4 | -6.8 | 5.0 | 2.8 |
The contributions to the rate of growth of GDP in percentage points (PP) are provided in Table 3. Aggregate demand, personal consumption expenditures (PCE) and gross private domestic investment (GDI) were much stronger during the expansion phase in IQ1983 to IIQ1984 than in IIIQ2009 to IVQ2010.
Table 3, Contributions to the Rate of Growth of GDP in Percentage Points
GDP | PCE | GDI | ∆ PI | Trade | GOV | |
2010 | ||||||
I | 3.7 | 1.33 | 3.04 | 2.64 | -0.31 | -0.32 |
II | 1.7 | 1.54 | 2.88 | 0.82 | -3.50 | 0.80 |
III | 2.6 | 1.67 | 1.80 | 1.61 | -1.70 | 0.79 |
IV | 2.8 | 2.88 | -3.13 | -3.70 | 3.35 | -0.31 |
2009 | ||||||
I | -4.9 | -0.34 | -6.80 | -1.09 | 2.88 | -0.61 |
II | -0.7 | -1.12 | -2.30 | -1.03 | 1.47 | 1.24 |
III | 1.6 | 1.41 | 1.22 | 1.10 | -1.37 | 0.33 |
IV | 5.0 | 0.69 | 2.70 | 2.83 | 1.90 | -0.28 |
1982 | ||||||
I | -6.4 | 1.62 | -7.50 | -5.47 | -0.49 | -0.03 |
II | -2.2 | 0.90 | -0.05 | 2.35 | 0.84 | 0.50 |
III | -1.5 | 1.92 | -0.72 | 1.15 | -3.31 | 0.57 |
IV | 0.3 | 4.64 | -5.66 | -5.48 | -0.10 | 1.44 |
1983 | ||||||
I | 5.1 | 2.54 | 2.20 | 0.94 | -0.30 | 0.63 |
II | 9.3 | 5.22 | 5.87 | 3.51 | -2.54 | 0.75 |
III | 8.1 | 4.66 | 4.30 | 0.60 | -2.32 | 1.48 |
IV | 8.5 | 4.20 | 6.84 | 3.09 | -1.17 | -1.35 |
| 1984 | ||||||
| I | 8.0 | 2.35 | 7.15 | 5.07 | -2.37 | 0.86 |
| II | 7.1 | 3.75 | 2.44 | -0.30 | -0.89 | 1.79 |
| III | 3.9 | 2.02 | -0.89 | 0.21 | -0.36 | 0.62 |
| IV | 3.3 | 3.38 | 1.79 | -2.50 | -0.58 | 1.75 |
Note: PCE: personal consumption expenditures; GDI: gross private domestic investment; ∆ PI: change in private inventories; Trade: net exports of goods and services; GOV: government consumption expenditures and gross investment; – is negative and no sign positive
GDP: percent change at annual rate; percentage points at annual rates
Table 4 provides more detailed information on the causes of the acceleration of GDP growth from 2.6 percent in IIIQ10 to 2.8 percent in IVQ10. The Bureau of Economic Analysis (BEA) finds three source of contribution to the acceleration: (1) sharp deceleration of import growth from 16.8 percent in IIIQ10 to negative 12.4 percent in IVQ10; (2) acceleration in PCE growth from 2.4 percent to 4.1 percent; and (3) acceleration in residential fixed investment (RFI) growth from negative 27.3 percent to 2.8 percent. There are three sources constraining growth: (1) deceleration of nonresidential fixed investment (NRFI) from 10.0 percent to 5.3 percent; (2) negative percentage point contribution of change in private inventories (∆% PI) of 3.70 from 1.61; and (3) deceleration of government consumption and expenditures (GOV) from 3.9 percent to negative 1.5 percent with federal government consumption and expenditures decelerating from 8.8 percent to negative 0.2 percent and state/local from 0.7 percent to negative 2.4 percent.
Table 4, Percentage Seasonally Adjusted Annual Equivalent Quarterly Rates of Increase
| IIIQ2010 | IVQ2010 | |
| GDP | 2.6 | 2.8 |
| PCE | 2.4 | 4.1 |
| Durable Goods | 7.6 | 21.0 |
| NRFI | 10.0 | 5.3 |
| RFI | -27.3 | 2.8 |
| Exports | 6.8 | 9.6 |
| Imports | 16.8 | -12.4 |
| GOV | 3.9 | -1.5 |
| Federal GOV | 8.8 | -0.2 |
| State/Local GOV | 0.7 | -2.4 |
∆ PI (PP) | 1.61 | -3.70 |
| GDP-∆ PI | 0.99 | -0.91 |
| Gross Domestic Purchases | 4.2 | -0.3 |
| Prices Gross Domestic Purchases | 0.7 | 2.1 |
| Real Disposable Personal Income | 0.9 | 1.7 |
| Personal Savings Rate | 5.9 | 5.4 |
Note: PCE: personal consumption expenditures; NRFI: nonresidential fixed investment; RFI: residential fixed investment; GOV: government consumption expenditures and gross investment; ∆ PI: change in
private inventories; GDP - ∆ PI: final sales of domestic product; PP: percentage points; Personal savings rate: savings as percent of disposable income
Source: http://www.bea.gov/newsreleases/national/gdp/2011/pdf/gdp4q10_adv.pdf
Table 5 shows the percentage point (PP) contributions to the annual levels in the earlier recessions 1958-1959, 1975-1976, 1982-1983 and 2009 and 2010. The most striking contrast is in the rates of growth of annual GDP in the expansion phases of 7.2 percent in 1959, 5.4 percent in 1983 followed by 7.2 percent in 1984 and 4.1 percent in 1985 but only 2.8 percent in 2010 after six consecutive quarters of growth. The annual levels also show much stronger growth of PCEs in the expansions after the earlier contractions. PCEs contributed 1.26 PPs to GDP growth in 2010 of which 1.00 PP in goods and 0.26 PP in services. GDI deducted 3.24 PPs of GDP growth in 2009 of which -2.69 PPs by fixed investment and -0.55 PP of ∆PI and added 1.84 PPs to GDI in 2010 of which 0.54 PPs in NRI and negative 0.07 PP in RI. Trade, or exports of goods and services net of imports, contributed 1.13 PPs in 2009 of which exports deducted 1.18 PPs and imports added 2.32 PPs. In 2010, trade deducted 0.48 PP with exports contributing 1.35 PPs and imports deducting 1.83 PPs. In 2009, Government added 0.32 PP of which 0.43 PP by the federal government and -0.11 PP by state and local government; in 2010, government added 0.21 PP of which 0.39 PP by the federal government with state and local government deducting 0.18 PP.
Table 5, Percentage Point Contributions to the Annual Growth Rate of GDP
| GDP | PCE | GDI | ∆ PI | Trade | GOV | |
| 1958 | -0.9 | 0.54 | -1.25 | -0.18 | -0.89 | 0.70 |
| 1959 | 7.2 | 3.61 | 2.80 | 0.86 | 0.00 | 0.76 |
| 1975 | -0.2 | 1.40 | -2.98 | -1.27 | 0.89 | 0.48 |
| 1976 | 5.4 | 3.51 | 2.84 | 1.41 | -1.08 | 0.10 |
| 1982 | -1.9 | 0.86 | -2.55 | -1.34 | -0.60 | 0.35 |
| 1983 | 4.5 | 3.65 | -1.45 | 0.29 | -1.35 | 0.76 |
| 1984 | 7.2 | 3.43 | 4.63 | 1.95 | -1.58 | 0.70 |
| 1985 | 4.1 | 3.32 | -0.17 | -1.06 | -0.42 | 1.41 |
| 2009 | -2.6 | -0.84 | -3.24 | -0.55 | 1.13 | 0.32 |
| 2010 | 2.8 | 1.26 | 1.84 | 1.38 | -0.48 | 0.21 |
II Raw Materials Shock. Data provided by the FT show an increase in commodities prices of: Brent crude future front month traded at ICE of 65.8 percent in 2009, 21.3 percent in 2010 and $35.7/per barrel or 46.7 percent in the past 52 weeks; crude oil front month futures traded at NYMEX of 71.5 percent in 2009, 14.8 percent in 2010 and $19.87/barrel or 25.4 percent in the past 52 weeks; copper high grade front months futures traded at CMX of 130.72 percent in 2009, 33.3 percent in 2010 and 38.8 percent in 52 weeks; gold 1 futures chain front month traded at CMX of 25.2 percent in 2009, 29.5 percent in 2010 and $302.90/ounce or 27.4 percent in the past 52 weeks; and corn front month futures traded at CBT of 0.98 percent in 2009, 51.3 percent in 2010 and 91.5 percent in the past 52 weeks (http://markets.ft.com/tearsheets/performance.asp?s=1039187&ss=WSODIssue http://markets.ft.com/markets/overview.asp). The price of light crude oil at NYMEX in the contract maturing on Apr 11, 2011, traded at $98.23/barrel on Feb 25 (http://online.wsj.com/mdc/public/page/2_3028.html?category=Energy&subcategory=Petroleum&mod=mdc_cmd_pglnk). The price of Brent crude oil at ICE in the contract maturing on Apr 11 traded at $112.14/barrel (Ibid).
US crude oil inventories have grown from 333 million barrels of oil in the week ending on Jan 7, 2011 to 347 million barrels in the week ending on Feb 18, 2011 (http://www.eia.doe.gov/dnav/pet/hist/LeafHandler.ashx?n=PET&s=WCESTUS1&f=W). According to the US Energy Information Administration (EIA) (http://www.eia.doe.gov/countries/cab.cfm?fips=LY):
“With domestic consumption estimated around 270,000 bbl/d in 2010, Libya's net exports (including all liquids) were slightly over 1.5 million bbl/d. According to the International Energy Agency the vast majority (around 85 percent) of Libyan oil exports are sold to European countries namely Italy, Germany, France, and Spain. With the lifting of sanctions against Libya in 2004, the United States has increased its imports of Libyan oil. According to the EIA estimates of Jan through Nov, the United States imported an average of 71,000 bbl/d from Libya in 2010 (of which, 44,000 bbl/d was crude), up from 56,000 bbl/d in 2005 but a decline from 2007 highs of 117,000 bbl/d.”
In Jan-Nov 2010, the US imported 3 percent of Libya’s oil exports. The International Energy Agency (IEA) estimates that Libya’s crude oil production has declined from 1.6 million barrels per day to 850,000 barrels per day because of shut-in (http://iea.org/files/final_20110225_libyan_update.pdf). Oil prices have moderated from higher spikes toward $120/barrel for Brent crude because “Saudi Arabia has been actively offering extra crude supplies to offset the lost Libyan barrels, with several buyers expressing interest” (Ibid; for an analysis of OPEC and oil see Pelaez and Pelaez, Globalization and the State, Vol. II (2008b), 28-33, Government Intervention in Globalization (2008c), 114-5). There are no short-term difficulties in European refineries because of the supply disruption in Libya. The Governing Board of the IEA finds that “based on industry reports, it appears that between 500,000 and 750,000 barrels per day of crude oil, or less than 1% of global daily consumption, have been removed at present from the market” (http://iea.org/index_info.asp?id=1834). Bloomberg informs that the head of the IEA’s oil industry and markets unit stated that the 28 members of the IEA have stockpiles of 1.6 billion barrels of crude oil and that a price of $95/barrel could burden the economy
(http://noir.bloomberg.com/apps/news?pid=newsarchive&sid=aKEGUEHBGndg). According to the WSJ, the IEA’s Executive Director stated that the value of world oil expenditures at current prices would equal 5 percent of GDP (http://professional.wsj.com/article/SB10001424052748703610604576158613735835374.html?mod=WSJPRO_hps_LEFTWhatsNews). Typically, Brent and WTI crude prices differ by around $1 per barrel but the gap has widened at some points to $19/barrel, such that the price of oil derivatives has been following the price of Brent more closely (Ibid). Companies using energy intensively are concerned that their businesses would be affected by the rise of fuel prices (http://www.ft.com/cms/s/0/de612ac2-410f-11e0-bf62-00144feabdc0.html#axzz1F4iVaACz).
The percentage contribution to the price of gasoline by components is: taxes 13, distribution and marketing 9, refining 11 and crude oil 67 (http://www.eia.doe.gov/oog/info/gdu/gasdiesel.asp). The US price of gasoline for Feb 21, 2011 was $3.180/gallon for an increase of $0.534/gallon relative to a year earlier or 16.7 percent. The FT finds three effects of higher oil prices on the economy and policy: (1) reduction of consumer income that can affect consumption and thus aggregate demand and GDP growth; (2) adverse expectations that could affect stock prices and other financial variables in a repetition of the European sovereign risk issues; and (3) accelerating inflation (http://www.ft.com/cms/s/0/ee8a31ec-405f-11e0-9140-00144feabdc0.html#axzz1F4iVaACz). Higher oil prices would have to be sustained over a period of time. There are no statistically meaningful forecasts of sustained oil price increases resulting from geopolitical events that are themselves uncertain and it is equally difficult to assess the impact of sustained oil prices on output and inflation.
III The Threat of Stagflation. Table 6, updated with every post, provides the latest yearly data for GDP, consumer price index (CPI) inflation, producer price index (inflation) and UNE (unemployment) for the advanced economies, China and the highly-indebted European countries with sovereign risk issues. There is inflation everywhere in the world economy, with slow growth and persistently high unemployment in advanced economies.
Table 6, GDP Growth, Inflation and Unemployment in Selected Countries, Percentage Annual Rates
| GDP | CPI | PPI | UNE | |
| US | 2.8 | 1.6 | 3.6 | 9.0 |
| Japan | 2.6 | 0.0 | 1.6 | 4.9 |
| China | 9.8 | 4.9 | 6.6 | |
| UK | 1.5 | 4.0 | 4.8 | 7.9 |
| Euro Zone | 2.0 | 2.4 | 5.3 | 10.0 |
| Germany | 4.0 | 2.0 | 5.7 | 7.4 |
| France | 1.5 | 1.8 | 5.4 | 9.7 |
| Belgium | 2.0 | 2.9 | 7.8 | 8.1 |
| Portugal | 1.2 | 3.64 | 5.7 | 11.1 |
| Ireland | 1.7 | 2.7 | 13.8 | |
| Italy | 1.3 | 2.1 | 4.6 | 8.6 |
| Greece | -6.6 | 5.2 | 6.9 | 12.4 |
| Spain | 0.6 | 3.3 | 5.3 | 20.2 |
Notes: GDP: rate of growth of GDP; CPI: change in consumer price inflation; PPI: producer price inflation; UNE: rate of unemployment; all rates relative to year earlier
Source: EUROSTAT; country statistical sources http://www.census.gov/aboutus/stat_int.html
Wall Street Journal Professional Factiva
The current economic environment could have risk of repeating the stagflation of the 1970s. Table 7 provides the rate of yearly growth of GDP, CPI inflation and UNE (rate of unemployment) from 1969 to 1982. Double digit inflation rates plagued the 1970s with the economy running in “stop and go” episodes. The Fed raised the fed funds rate that reached 19.85 percent on Apr 4-5 of 1980 (http://www.federalreserve.gov/releases/h15/data/Daily/H15_FF_O.txt). The rate of unemployment rose to 9.7 percent in 1982. Several countries that had borrowed for financing balance of payments deficits declared moratoriums on their foreign debts, impairing balance sheets of money-center banks. The increase in interest rates to deal with stagflation caught the banking industry with short-dated funding and long-term fixed-rate assets. In a parallel of what could happen when the Fed abandons its near zero interest rates, 1150 US commercial banks, close to 8 percent of the industry, failed, almost twice the number of banks that failed since establishment of the FDIC in 1934 until 1983 (Benston and Kaufman 1997, 139; see Pelaez and Pelaez, Regulation of Banks and Finance (2009b), 72-7). More than 900 savings and loans associations, equivalent to around 25 percent of the industry, had to be closed, merged or placed in conservatorship (Ibid). Taxpayer funds in the value of $150 billion were used in the resolution of failed savings and loans institutions. In terms of relative dimensions, $150 billion was equivalent to 2.6 percent of GDP of $5800 billion in 1990 and 3.6 percent of GDP of $4217 billion in 1985 (http://www.bea.gov/national/nipaweb/TableView.asp?SelectedTable=5&ViewSeries=NO&Java=no&Request3Place=N&3Place=N&FromView=YES&Freq=Year&FirstYear=1980&LastYear=1990&3Place=N&Update=Update&JavaBox=no). The equivalent in terms of 2.6 to 3.6 percent of US GDP in 2010 of $14,657 billion would be $381 billion to $528 billion (data from Ibid). Wide swings in interest rates resulting from aggressive monetary policy can wreck the balance sheets of families, financial institutions and companies while posing another recession risk. While it is true that the Fed can increase interest rates instantaneously, the increase from zero percent toward much higher levels to contain inflation can have devastating effects on the world economy. The Financial Times/Harris Poll finds that few respondents in the major economies of Europe and the US are not concerned of being affected by inflation (http://www.ft.com/cms/s/0/0354c278-3d0d-11e0-bbff-00144feabdc0.html#axzz1Ead9yEL8). About 40 percent of respondents in the UK, US and Germany expect strong or very strong effects from inflation and 60 percent in Spain and France.
Table 7, US Annual Rate of Growth of GDP and CPI and Unemployment Rate 1969-1982
∆% GDP | ∆% CPI | UNE | |
| 1969 | 3.1 | 6.2 | |
| 1970 | 0.2 | 5.6 | |
| 1971 | 3.4 | 3.3 | |
| 1972 | 5.3 | 3.4 | |
| 1973 | 5.8 | 8.7 | |
| 1974 | -0.6 | 12.3 | |
| 1975 | -0.2 | 6.9 | |
| 1976 | 5.4 | 4.9 | 7.7 |
| 1977 | 4.6 | 4.7 | 7.1 |
| 1978 | 5.6 | 9.0 | 6.1 |
| 1979 | 3.1 | 13.3 | 5.8 |
| 1980 | -0.3 | 12.5 | 7.1 |
| 1981 | 2.5 | 8.9 | 7.6 |
| 1982 | -1.9 | 3.8 | 9.7 |
Note: GDP: Gross Domestic Product; CPI: consumer price index; UNE: rate of unemployment
Source: ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt
http://www.bls.gov/web/empsit/cpseea01.htm
Table 8, updated with every blog, provides in the second column the yield at the close of market of the 10-year Treasury on the date in the first column. The price in the third column is calculated with the coupon of 2.625 percent of the 10-year note current at the time of the second round of quantitative easing after Nov 3, 2010 and the final column “∆% 11/04/10” calculates the percentage change of the price on the date relative to that of 101.2573 at the close of market one day after the decision on quantitative easing by the Fed on Nov 4, 2010. Prices with the new coupon of 3.63 percent in recent auctions (http://www.treasurydirect.gov/instit/annceresult/press/preanre/2011/2011.htm) are not comparable to prices in Table 8. The highest yield in the decade was 5.510 percent on May 1, 2001 that would result in a loss of principal of 22.9 percent relative to the price on Nov 4. The Fed has created a “duration trap” of bond prices. Duration is the percentage change in bond price resulting from a percentage change in yield or what economists call the yield elasticity of bond price. Duration is higher the lower the bond coupon and yield, all other things constant. This means that the price loss in a yield rise from low coupons and yields is much higher than with high coupons and yields. Intuitively, the higher coupon payments offset part of the price loss. Prices/yields of Treasury securities were affected by the combination of Fed purchases for its program of quantitative easing and also by the flight to dollar-denominated assets because of geopolitical risks in the Middle East. The yield of 3.414 percent at the close of market on Feb 15 would be equivalent to price of 93.3676 in a hypothetical bond maturing in 10 years with coupon of 2.625 percent for price loss of 7.8 percent relative to the price on Nov 4, 2010, one day after the decision on the second program of quantitative easing. If inflation accelerates, yields of Treasury securities may rise sharply. Yields are not observed without special yield-lowering effects such as the flight into dollars caused by the events in the Middle East and continuing purchases of Treasury securities by the Fed.
Table 8, Yield, Price and Percentage Change to November 4, 2010 of Ten-Year Treasury Note
| Date | Yield | Price | ∆% 11/04/10 |
| 05/01/01 | 5.510 | 78.0582 | -22.9 |
| 06/10/03 | 3.112 | 95.8452 | -5.3 |
| 06/12/07 | 5.297 | 79.4747 | -21.5 |
| 12/19/08 | 2.213 | 104.4981 | 3.2 |
| 12/31/08 | 2.240 | 103.4295 | 2.1 |
| 03/19/09 | 2.605 | 100.1748 | -1.1 |
| 06/09/09 | 3.862 | 89.8257 | -11.3 |
| 10/07/09 | 3.182 | 95.2643 | -5.9 |
| 11/27/09 | 3.197 | 95.1403 | -6.0 |
| 12/31/09 | 3.835 | 90.0347 | -11.1 |
| 02/09/10 | 3.646 | 91.5239 | -9.6 |
| 03/04/10 | 3.605 | 91.8384 | -9.3 |
| 04/05/10 | 3.986 | 88.8726 | -12.2 |
| 08/31/10 | 2.473 | 101.3338 | 0.08 |
| 10/07/10 | 2.385 | 102.1224 | 0.8 |
| 10/28/10 | 2.658 | 99.7119 | -1.5 |
| 11/04/10 | 2.481 | 101.2573 | - |
| 11/15/10 | 2.964 | 97.0867 | -4.1 |
| 11/26/10 | 2.869 | 97.8932 | -3.3 |
| 12/03/10 | 3.007 | 96.7241 | -4.5 |
| 12/10/10 | 3.324 | 94.0982 | -7.1 |
| 12/15/10 | 3.517 | 92.5427 | -8.6 |
| 12/17/10 | 3.338 | 93.9842 | -7.2 |
| 12/23/10 | 3.397 | 93.5051 | -7.7 |
| 12/31/10 | 3.228 | 94.3923 | -6.7 |
| 01/07/11 | 3.322 | 94.1146 | -7.1 |
| 01/14/11 | 3.323 | 94.1064 | -7.1 |
| 01/21/11 | 3.414 | 93.4687 | -7.7 |
| 01/28/11 | 3.323 | 94.1064 | -7.1 |
| 02/04/11 | 3.640 | 91.750 | -9.4 |
| 02/11/11 | 3.643 | 91.5319 | -9.6 |
| 02/18/11 | 3.582 | 92.0157 | -9.1 |
| 02/25/11 | 3.414 | 93.3676 | -7.8 |
Note: price is calculated for an artificial 10-year note paying semi-annual coupon and maturing in ten years using the actual yields traded on the dates and the coupon of 2.625% on 11/04/10
Source:
http://online.wsj.com/mdc/public/page/mdc_bonds.html?mod=mdc_topnav_2_3020
In an interview with Xinhua News Agency on Sunday Feb 27, Chinese Premier Wen Jiabao announced that China’s five-year growth target for 2011-2015 will be lowered to 7 percent, with policy emphasizing the quality of growth and improving living standards (http://news.xinhuanet.com/english2010/china/2011-02/27/c_13752052.htm). The macroeconomic emphasis may shift to controlling inflation (http://noir.bloomberg.com/apps/news?pid=20601087&sid=a0Z4YrHoaQtE&pos=2). The WSJ informs that Yi Gang, vice governor of the People’s Bank of China (PBOC), finds that the large current and capital account surpluses of China have resulted in huge inflows of capital with the PBOC issuing money to buy foreign exchange that increases the money supply and causes inflation (http://professional.wsj.com/article/SB10001424052748703796504576167593708301706.html?mod=WSJPRO_hps_LEFTWhatsNews). Goodfriend and Prasad (2006) analyze the difficulties in managing China’s monetary policy with a rigid exchange rate, controlling growth of credit with administrative measures instead of interest rate policies. China is now using quantitative tightening in the form of increasing required reserves of banks, interest rate increases and administrative measures. Prasad and Rajan (2006) find that China needs a new paradigm to reconcile the “market track” with share of the market in economic activity between 50 percent and two-thirds and the “planned track” with conflicts of efficiency between markets and planning (see Pelaez and Pelaez, The Global Recession Risk (2007), 56-80). The management of economic policy in China in finding that paradigm poses a challenging tradeoff of inflation and growth with important repercussions in the world economy.
IV Risk Financial Assets. This section updates several tables that are essential in analyzing the effects of monetary policy on world risk financial assets. The financial crisis and global recession were caused by interest rate and housing subsidies and affordability policies that encouraged high leverage and risks, low liquidity and unsound credit (Pelaez and Pelaez, Financial Regulation after the Global Recession (2009a), 157-66, Regulation of Banks and Finance (2009b), 217-27, International Financial Architecture (2005), 15-18, The Global Recession Risk (2007), 221-5, Globalization and the State Vol. II (2008b), 197-213, Government Intervention in Globalization (2008c), 182-4). Several past comments of this blog elaborate on these arguments, among which: http://cmpassocregulationblog.blogspot.com/2011/01/professor-mckinnons-bubble-economy.html http://cmpassocregulationblog.blogspot.com/2011/01/world-inflation-quantitative-easing.html http://cmpassocregulationblog.blogspot.com/2011/01/treasury-yields-valuation-of-risk.html http://cmpassocregulationblog.blogspot.com/2010/11/quantitative-easing-theory-evidence-and.html http://cmpassocregulationblog.blogspot.com/2010/12/is-fed-printing-money-what-are.html New empirical and theoretical contributions will also be analyzed in this section.
Table 9 shows the phenomenal impulse to valuations of risk financial assets originating in the initial shock of near zero interest rates in 2003-2004 with the fed funds rate at 1 percent, in fear of deflation that never materialized, and quantitative easing in the form of suspension of the auction of 30-year Treasury bonds to lower mortgage rates. The charts of risk financial assets show sharp rise in valuations leading to the financial crisis and then profound drops that are captured in Table 9 by percentage changes of peaks and troughs. World financial markets were dominated by Fed and housing policy in the US. Table 9 now has a row for the Chinese yuan (CNY) rate of exchange relative to the US dollar (USD). China pegged the exchange rate at a value that afforded significant competitive power in trade, at around 8.2798 CNY/USD, revalued it from 2005 to 2008 by 17.6 percent, pegged it again to the dollar to avoid loss of competitiveness during the global recession and then revalued it by 3.6 percent by Fri Feb 25, 2011. The first round of quantitative easing and near zero interest rates depreciated the dollar relative to the euro by 39.3 percent between 2003 and 2008, with revaluation of the dollar by 25.1 percent from 2008 to 2010 in the flight to dollar-denominated assets in fear of world financial risks and then devaluation of the dollar by 15.3 percent by Fri Feb 25. Between 2002 and 2008, the DJ UBS Commodity Index rose 165.5 percent largely because of the unconventional monetary policy of the Fed in the form of low interest rates.
Table 9, Volatility of Assets
| DJIA | 10/08/02-10/01/07 | 10/01/07-3/4/09 | 3/4/09- 4/6/10 | |
∆% | 87.8 | -51.2 | 60.3 | |
| NYSE Financial | 1/15/04- 6/13/07 | 6/13/07- 3/4/09 | 3/4/09- 4/16/07 | |
∆% | 42.3 | -75.9 | 121.1 | |
| Shanghai Composite | 6/10/05- 10/15/07 | 10/15/07- 10/30/08 | 10/30/08- 7/30/09 | |
∆% | 444.2 | -70.8 | 85.3 | |
| STOXX EUROPE 50 | 3/10/03- 7/25/07 | 7/25/07- 3/9/09 | 3/9/09- 4/21/10 | |
∆% | 93.5 | -57.9 | 64.3 | |
| UBS Com. | 1/23/02- 7/1/08 | 7/1/08- 2/23/09 | 2/23/09- 1/6/10 | |
∆% | 165.5 | -56.4 | 41.4 | |
| 10-Year Treasury | 6/10/03 | 6/12/07 | 12/31/08 | 4/5/10 |
| % | 3.112 | 5.297 | 2.247 | 3.986 |
| USD/EUR | 6/26/03 | 7/14/08 | 6/07/10 | 02/25 /11 |
| Rate | 1.1423 | 1.5914 | 1.192 | 1.375 |
| CNY/USD | 01/03 2000 | 07/21 2005 | 7/15 2008 | 02/25 2011 |
| Rate | 8.2798 | 8.2765 | 6.8211 | 6.5749 |
| New House | 1963 | 1977 | 2005 | 2009 |
| Sales 1000s | 560 | 819 | 1283 | 375 |
| New House | 2000 | 2007 | 2009 | 2010 |
| Median Price $1000 | 169 | 247 | 217 | 203 |
| 2003 | 2005 | 2007 | 2010 | |
| CPI | 1.9 | 3.4 | 4.1 | 1.5 |
Sources: http://online.wsj.com/mdc/page/marketsdata.html
http://www.census.gov/const/www/newressalesindex_excel.html
http://federalreserve.gov/releases/h10/Hist/dat00_eu.htm
ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt
http://federalreserve.gov/releases/h10/Hist/dat00_ch.htm
http://markets.ft.com/ft/markets/currencies.asp
The trends of valuations of global risk financial assets are dominated by the carry trade from near zero interest rates in the US to take long positions in risk financial assets. Investors and financial professionals learned from losses or how to avoid them. The carry trade is now more opportunistic in quickly realizing profits to avoid losses during periods of risk aversion resulting from events such as the European risk issues, fears of the tradeoff of growth and inflation in Asia and slow growth with high unemployment and underemployment in the US together with expectations of increases in taxes and interest rates. When risk aversion is subdued, the combination of near zero interest rates of fed funds and quantitative easing creates again the dream of traders of “the trend is my friend” without as strong a belief in the Bernanke-put, or floor on risk financial asset valuations set by Fed monetary policy, as in earlier periods. Table 10 captures the decline of risk financial assets resulting from the European sovereign risk issues after Apr and the sharp recovery that was not interrupted by the second round in late Nov. The final column shows that after Jun there is repetition of the trend of high valuations of risk financial assets with the exception of the dollar that devalued by 15.3 percent. A major risk of world capital markets is in sustained increases in oil prices that could cause another downturn of risk financial assets similar to the one that occurred in the European sovereign risk event after Apr 2010. That risk could be significant as shown by the decline of valuations of risk financial assets in column “∆% to Trough” with high double-digit losses. The column “∆% Week 2/25/11” shows decline of stock market indexes by two percentage points or more in most cases.
Table 10, Stock Indexes, Commodities, Dollar and 10-Year Treasury| Peak | Trough | ∆% to Trough | ∆% Peak to 2/ 25/11 | ∆% Week 2/ 25 /11 | ∆% Trough to 2/ 25/11 | |
| DJIA | 4/26/ 10 | 7/2/10 | -13.6 | 8.3 | -2.1 | 25.2 |
| S&P 500 | 4/23/ 10 | 7/20/ 10 | -16.0 | 8.4 | -1.7 | 29.1 |
| NYSE Finance | 4/15/ 10 | 7/2/10 | -20.3 | -0.7 | -2.2 | 24.6 |
| Dow Global | 4/15/ 10 | 7/2/10 | -18.4 | 5.1 | -2.1 | 28.9 |
| Asia Pacific | 4/15/ 10 | 7/2/10 | -12.5 | 6.7 | -2.3 | 21.9 |
| Japan Nikkei Aver. | 4/05/ 10 | 8/31/ 10 | -22.5 | -7.6 | -2.9 | 19.3 |
| China Shang. | 4/15/ 10 | 7/02 /10 | -24.7 | -9.0 | -0.7 | 20.8 |
| STOXX 50 | 4/15/10 | 7/2/10 | -15.3 | -0.6 | -2.4 | 17.3 |
| DAX | 4/26/ 10 | 5/25/ 10 | -10.5 | 13.4 | -3.2 | 26.7 |
| Dollar Euro | 11/25 2009 | 6/7 2010 | 21.2 | 9.1 | -0.4 | -15.3 |
| DJ UBS Comm. | 1/6/ 10 | 7/2/10 | -14.5 | 14.0 | 1.4 | 33.4 |
| 10-Year Tre. | 4/5/ 10 | 4/6/10 | 3.986 | 3.414 |
T: trough; Dollar: positive sign appreciation relative to euro (less dollars paid per euro), negative sign depreciation relative to euro (more dollars paid per euro)
Source: http://online.wsj.com/mdc/page/marketsdata.html.
Table 11, updated with every post, provides the percentage changes of the DJIA and the S&P 500 since Apr 26, around the European sovereign risk issues, from current to previous selected dates and relative to Apr 26. Chairman Bernanke (2010WP) first argued on Nov 4, 2010 that quantitative easing was also designed to increase the valuations of stocks with the objective of creating a wealth effect that would motivate consumption. The problem is that the Fed does not control effects over multiple asset classes including riskier financial assets such as commodities and exchange rates. The decline of major US stock indexes in the week of Feb 25 reduced the valuations of the DJIA and S&P 500 to single digit increases since the effects of the European sovereign risk event beginning around Apr 26.
Table 11, Percentage Changes of DJIA and S&P 500 in Selected Dates
| 2010 | ∆% DJIA from earlier date | ∆% DJIA from Apr 26 | ∆% S&P 500 from earlier date | ∆% S&P 500 from Apr 26 |
| Apr 26 | ||||
| May 6 | -6.1 | -6.1 | -6.9 | -6.9 |
| May 26 | -5.2 | -10.9 | -5.4 | -11.9 |
| Jun 8 | -1.2 | -11.3 | 2.1 | -12.4 |
| Jul 2 | -2.6 | -13.6 | -3.8 | -15.7 |
| Aug 9 | 10.5 | -4.3 | 10.3 | -7.0 |
| Aug 31 | -6.4 | -10.6 | -6.9 | -13.4 |
| Nov 5 | 14.2 | 2.1 | 16.8 | 1.0 |
| Nov 30 | -3.8 | -3.8 | -3.7 | -2.6 |
| Dec 17 | 4.4 | 2.5 | 5.3 | 2.6 |
| Dec 23 | 0.7 | 3.3 | 1.0 | 3.7 |
| Dec 31 | 0.03 | 3.3 | 0.07 | 3.8 |
| Jan 7 | 0.8 | 4.2 | 1.1 | 4.9 |
| Jan 14 | 0.9 | 5.2 | 1.7 | 6.7 |
| Jan 21 | 0.7 | 5.9 | -0.8 | 5.9 |
| Jan 28 | -0.4 | 5.5 | -0.5 | 5.3 |
| Feb 4 | 2.3 | 7.9 | 2.7 | 8.1 |
| Feb 11 | 1.5 | 9.5 | 1.4 | 9.7 |
| Feb 18 | 0.9 | 10.6 | 1.0 | 10.8 |
| Feb 25 | -2.1 | 8.3 | -1.7 | 8.9 |
Source: http://online.wsj.com/mdc/public/page/mdc_us_stocks.html?mod=mdc_topnav_2_3004
The issue of capital controls is actually an issue of exchange rate policy. Table 12, which is updated with every post, shows in the last three rows the Chinese yuan (CNY) to US dollar (USD) exchange rate or number of CNY required to buy one USD. China fixed the rate at around 8.2765 CNY/USD for a long period until Aug 2005. That rate afforded a competitive edge to Chinese products in world markets and in competition of internally-produced goods with foreign-produced imports. China then strengthened the yuan by 17.6 percent until Jul 2008 when it fixed it to the dollar in an effort to prevent the erosion of its competitiveness in world markets and at home to protect the economy from the global recession. China resumed the revaluation of the yuan in 2010, with revaluation by 3.6 percent by Feb 25, 2011. Table 12 shows the sharp appreciation relative to the dollar of most currencies in the world, which is far higher than the Fed’s objective of attaining by quantitative easing “a moderate change in the foreign exchange value of the dollar that provides support to net exports,” as revealed for the first time by Yellen (2011AS, 6). Bernanke (2002FD) states:
“Although a policy of intervening to affect the exchange value of the dollar is nowhere on the horizon today, it's worth noting that there have been times when exchange rate policy has been an effective weapon against deflation. A striking example from U.S. history is Franklin Roosevelt's 40 percent devaluation of the dollar against gold in 1933-34, enforced by a program of gold purchases and domestic money creation. The devaluation and the rapid increase in money supply it permitted ended the U.S. deflation remarkably quickly. Indeed, consumer price inflation in the United States, year on year, went from -10.3 percent in 1932 to -5.1 percent in 1933 to 3.4 percent in 1934. The economy grew strongly, and by the way, 1934 was one of the best years of the century for the stock market. If nothing else, the episode illustrates that monetary actions can have powerful effects on the economy, even when the nominal interest rate is at or near zero, as was the case at the time of Roosevelt's devaluation.”
Many countries have complained that Fed “nonconventional policy” of near zero interest rates and quantitative easing is designed to cause, or at least results in, a competitive devaluation of the dollar that would export US unemployment to other countries.
Table 12, Exchange Rates
| Peak | Trough | ∆% P/T | Feb 25 2011 | ∆% T Feb 25 | ∆% P Feb 25 | |
| EUR USD | 7/15 2008 | 6/7 2010 | 2/25/ 2011 | |||
| Rate | 1.59 | 1.192 | 1.375 | |||
| ∆% | -33.4 | 13.3 | -15.6 | |||
| JPY USD | 8/18 2008 | 9/15 2010 | 2/25 2011 | |||
| Rate | 110.19 | 83.07 | 81.67 | |||
| ∆% | 24.6 | 1.7 | 25.9 | |||
| CHF USD | 11/21 2008 | 12/8 2009 | 2/25 2011 | |||
| Rate | 1.225 | 1.025 | 0.929 | |||
| ∆% | 16.3 | 9.4 | 24.2 | |||
| USD GBP | 7/15 2008 | 1/2/ 2009 | 2/25 2011 | |||
| Rate | 2.006 | 1.388 | 1.612 | |||
| ∆% | -44.5 | 13.9 | -24.5 | |||
| USD AUD | 7/15 2008 | 10/27 2008 | 2/25 2011 | |||
| Rate | 1.0215 | 1.6639 | 1.018 | |||
| ∆% | -62.9 | 40.9 | 3.8 | |||
| ZAR USD | 10/22 2008 | 8/15 2010 | 2/25 2011 | |||
| Rate | 11.578 | 7.238 | 7.14 | |||
| ∆% | 37.5 | 1.4 | 38.3 | |||
| SGD USD | 3/3 2009 | 8/9 2010 | 2/25 2011 | |||
| Rate | 1.553 | 1.348 | 1.272 | |||
| ∆% | 13.2 | 5.6 | 18.1 | |||
| HKD USD | 8/15 2008 | 12/14 2009 | 2/25 2011 | |||
| Rate | 7.813 | 7.752 | 7.793 | |||
| ∆% | 0.8 | -0.5 | 0.2 | |||
| BRL USD | 12/5 2008 | 4/30 2010 | 2/18 2011 | |||
| Rate | 2.43 | 1.737 | 1.663 | |||
| ∆% | 28.5 | 4.3 | 31.6 | |||
| CZK USD | 2/13 2009 | 8/6 2010 | 2/18 2011 | |||
| Rate | 22.19 | 18.693 | 17.760 | |||
| ∆% | 15.7 | 4.9 | 19.9 | |||
| SEK USD | 3/4 2009 | 8/9 2010 | 2/18 2011 | |||
| Rate | 9.313 | 7.108 | 6.422 | |||
| ∆% | 23.7 | 9.7 | 31.0 | |||
| CNY USD | 7/20 2005 | 7/15 2008 | 2/25 2011 | |||
| Rate | 8.2765 | 6.8211 | 6.5749 | |||
| ∆% | 17.6 | 3.6 | 20.6 |
Symbols: USD: US dollar; EUR: euro; JPY: Japanese yen; CHF: Swiss franc; GBP: UK pound; AUD: Australian dollar; ZAR: South African rand; SGD: Singapore dollar; HKD: Hong Kong dollar; BRL: Brazil real; CZK: Czech koruna; SEK: Swedish krona; CNY: Chinese yuan; P: peak; T: trough
Note: percentages calculated with currencies expressed in units of domestic currency per dollar; negative sign means devaluation and no sign appreciation
Source: http://online.wsj.com/mdc/public/page/mdc_currencies.html?mod=mdc_topnav_2_3000
http://federalreserve.gov/releases/h10/Hist/dat00_ch.htm
http://markets.ft.com/ft/markets/currencies.asp
V Economic Indicators. Industry continues to grow but real estate is significantly lagging and the job market is still plagued with weakness. New orders for manufactured durable goods rose 2.7 percent in Jan but fell 3.6 percent excluding transportation, increasing 1.9 percent excluding defense. Not seasonally adjusted new orders of durable goods rose 8.2 percent in Jan 2011 relative to Jan 2010 and by 12.3 percent excluding transportation and 9.8 percent excluding defense (http://www.census.gov/manufacturing/m3/adv/pdf/durgd.pdf). The index of existing home sales of the National Association of Realtors (NAR) rose by 2.7 percent in Jan, reaching a seasonally-adjusted yearly equivalent rate of 5.36 million relative to 5.22 million in Dec and higher by 5.3 percent than 5.09 million in Jan 2010 (http://www.realtor.org/press_room/news_releases/2011/02/january_above). Existing home sales were higher than in the previous year for the first time in seven months. New single-family home sales in Jan 2011 were at a seasonally-adjusted yearly equivalent rate of 284,000, lower by 12.6 percent relative to the revised rate of 325,000 in Dec and 18.6 percent lower than the Jan 2010 rate of 349,000 (http://www.realtor.org/press_room/news_releases/2011/02/january_above). Without seasonal adjustment, sales in Jan 2011 were 19,000, which are lower by 77.6 percent relative to 85,000 in Jan 2005 and 79.6 percent lower than 93,000 in Jan 2006 (http://www.census.gov/const/newressales_0501.pdf http://www.census.gov/const/newressales_201101.pdf http://www.census.gov/const/newressales_200601.pdf). The S&P Case-Shiller National Home Price Index fell 3.9 percent in the fourth quarter of 2010, reaching a level that is 4.1 percent below the fourth quarter of 2009; that is the worst growth rate since the negative 8.6 percent annual rate in the third quarter of 2009. Both the 10- and 20-city composite indexes declined in Dec 2010 relative to Dec 2009 and there were declines in 18 of the 20 cities sample (http://www.standardandpoors.com/indices/sp-case-shiller-home-price-indices/en/us/?indexId=spusa-cashpidff--p-us----). US jobless claims, seasonally adjusted, fell by 22,000 in the week ending on Feb 19, reaching 391,000 relative to the prior week’s revised 413,000; the 4-week moving average fell 16,500, reaching 402,000 relative to the prior week’s revised 418,500 (http://www.dol.gov/opa/media/press/eta/ui/current.htm).
VI Interest Rates. The US Treasury 10-year yield was lower at 3.42 percent on Fr Feb 25 than 3.59 percent in the prior week but higher than 3.39 percent in the prior month; the 30-year yield was lower at 4.50 percent than 4.70 percent a week earlier and 4.56 percent a month earlier. The 10-year government bond of Germany traded at 3.14 percent for negative spread of 28 basis points relative to the comparable US Treasury yield (http://markets.ft.com/markets/bonds.asp). Lower yields of government securities of the US and Germany are the result of flight to quality in the midst of risk aversion emanating from geopolitical events in the Middle East. The US Treasury note with 3.63 percent coupon and maturity on 02/21 traded on Feb 25 at price of 101.66 or equivalent yield of 3.43 percent (http://markets.ft.com/ft/markets/reports/FTReport.asp?dockey=GOV-250211). This price is not comparable to the price in Table 8, which is calculated on the basis of a coupon of 2.625 percent and maturity in exactly ten years for purposes of comparing prices relative to earlier dates.
VII Conclusion. The US is accumulating budget deficits of $5452 billion, or $5.5 trillion, between 2009 and 2012, equivalent to 36.4 percent of GDP of $15.1 trillion estimated for 2011with the debt/GDP ratio rising to a historical high since World War II of 75.1 percent (see Table 1 in the prior comment of this blog http://cmpassocregulationblog.blogspot.com/2011/02/policy-inflation-growth-unemployment.html). Fed monetary policy consists of a target of fed funds rate of 0 to ¼ percent per year that has been fixed at that level since Dec 16, 2008 (http://www.federalreserve.gov/newsevents/press/monetary/20081216b.htm). In addition, the line “reserve bank credit” in the Fed balance sheet for Feb 23, 2011, stood at $2516.1 billion, or $2.5 trillion, with portfolio of long-term securities of $2290.9 billion or $2.3 trillion, consisting of long-term notes and bonds of $1134 .7 billion, inflation-indexed notes and bonds of $53.9 billion, federal agency debt securities of $144.1 billion and mortgage-backed securities of $958.2 billion; the line “reserve balances with Federal Reserve Banks” stood at $1290.5 billion, or $1.3 trillion (http://www.federalreserve.gov/releases/h41/current/h41.htm#h41tab1). US monetary policy has caused a sustained increase in commodity prices and valuations of risk financial assets. The mix of these inflated valuations of risk financial assets with either one or several world events such as a sovereign risk stress in Europe, geopolitical event in oil-producing countries and complications in the inflation/growth tradeoff in China could result in another financial event in a world economy threatened by stagflation. There is a threat to US recovery from tax and interest rate increases that could be required in a moment resembling more Volcker in 1981 than Roosevelt in 1934. (Go to http://www.amazon.com/Carlos-Manuel-Pel%C3%A1ez/e/B001HCUT10 http://cmpassocregulationblog.blogspot.com/ http://sites.google.com/site/economicregulation/carlos-m-pelaez)
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© Carlos M. Pelaez, 2010, 2011
