MacroScope

If at first you don’t succeed… Fed’s Evans sticks to strong forecast despite misses

It’s nice to know Federal Reserve officials have a sense of humor about their own forecasting errors. Chicago Fed President Charles Evans was certainly humble enough to admit to some recent misses in a speech on Friday .

Still, he’s sticking to his guns, arguing that U.S. economic growth will finally break above 3 percent next year, allowing the Fed to gradually pull back on its bond-buying stimulus.

In 2009, I predicted that growth would pick up. I did the same in 2010, 2011 and 2012. And I was not alone – most FOMC participants and many outside analysts shared this overly optimistic view. Undaunted, I make my intrepid forecast: I anticipate growth to average about 2-1/2 percent in the second half of the year and to be in the neighborhood of 3 percent next year. I expect the unemployment rate to be somewhat below 7 percent by the end of 2014.

Why is this time different? Here is Evans’ reasoning:

The economic fundamentals are much improved. The cyclical repair process is well under way. Although many households are still distressed, the housing sector as a whole is much better off than it was earlier in the recovery. Housing prices have risen noticeably over the past year.1 The number of mortgages underwater is down from 12.1 million in early 2010 to 9.7 million in the first quarter of 2013. Equity markets have largely recovered and are now around 5 percent above their pre-recession peaks. After several years of restraint, there is pent-up demand for 5 consumer durables. Businesses that had generally delayed capital expenditures are in a relatively favorable position today to finance these outlays. Most big businesses’ balance sheets are in good shape, and surveys show that fewer small businesses see access to credit as a major concern and that there has been an increase in demand for loans from small firms.

Another factor behind my forecast is that it appears there will be less fiscal restraint in 2014 and 2015. Specifically, fiscal restraint will still have a negative impact on GDP growth, but it is expected to be smaller for the next few years. The tax hikes that occurred at the beginning of this year won’t be repeated in 2014. Furthermore, under current law, much of the impact of the sequester on government spending occurs in 2013; so, fiscal reductions in the next few years will be smaller, and the negative impact on growth will be less.

Say it with confidence: Consumer surveys as a leading indicator of jobs

It turns out people are better employment forecasters than economists. A report from New York Fed economists finds that confidence measures gleaned from consumer surveys are very tightly correlated with the path of U.S. employment.

The paper offers some illustrative charts that make a rather convincing case.

The chart below plots the Present Situation Index against the unemployment rate, whose scale is inverted so that high levels represent strong labor market conditions (low unemployment) and vice versa. One readily apparent feature is that the two series move together very closely throughout the period and, most notably, during all five of the recessions since 1977. It’s hard to tell from inspecting the chart, but the highest correlation (0.89) occurs at a two-month lead; that is, the Present Situation Index is even more strongly correlated with the unemployment rate two months into the future than it is with the concurrent rate.

The next chart looks at the relationship between changes in this index and payroll job growth – both over twelve-month intervals. This measure of employment is based on a different survey than the survey for the unemployment rate, but payroll employment is typically growing when unemployment is declining and vice versa. Once again, it’s very apparent that the two measures move closely together, and again formal analysis reveals that the Present Situation Index tends to foreshadow movements in employment by a couple of months. In particular, twelve-month changes in the index are most highly correlated with twelve-month job growth four months into the future – the correlation is 0.83.

China at a crossroads on yuan internationalization project

As China marks the third anniversary of the first ever bond sale by a foreign company denominated in renminbi, questions are rife on what lies next for the offshore yuan market.

Since hamburger chain McDonalds sold $29 million of bonds on a summer evening just over three years ago, China’s yuan internationalization project has notched up impressive milestones.More than 12 percent of China’s trade is now denominated in yuan from less than 1 percent three years ago, Hong Kong – the vanguard of the offshore yuan movement – has more than one trillion yuan of assets in bank deposits and bonds and central banks from Nigeria to Australia have added a slice of yuan to their foreign exchange reserves.

China’s aim to internationalize the yuan has two major objectives: One, to ensure that its companies do not have to shoulder the foreign exchange risk of swapping yuan into dollars in global trade. The second is that as China gradually makes the transition from a current account surplus nation to a deficit country, it would, like the United States, want its debt to be denominated in its own currency.

Fed taxonomy: Lacker is a hawk, not a bull

Not to mix too many animal metaphors but, generally speaking, monetary policy hawks also tend to bulls on the economy. That is, they are leery of keeping interest rates too low for too long because they believe growth prospects are stronger than economists foresee, and therefore could lead to higher inflation.

That is not the case, however, for Richmond Fed President Jeffrey Lacker, a vocal opponent of the central bank’s unconventional bond-buying stimulus program, particular the part of it that focuses on mortgages. He reiterated his concerns last week, saying the Fed should begin tapering in September by cutting out its mortgage bond buying altogether.

But when I asked him whether upward revisions to second quarter gross domestic product reinforced his case, Lacker was surprisingly skeptical of forecasts for a stronger performance in the second half of the year.

Curious timing for Fed self-doubt on monetary policy

If there was ever a time to be worried about whether the Federal Reserve’s bond-buying stimulus is having a positive effect on the economy, the last few months were probably not it. Everyone expected government spending cuts and tax increases to push the economic recovery off the proverbial cliff, while the outlook for overseas economies has very quickly gone from rosy to flashing red. But the American expansion has remained the fastest-moving among industrialized laggards, with second quarter gross domestic product revised up sharply to 2.5 percent.

Yet for some reason, at the highest levels of the U.S. central bank and in its most dovish nooks, the notion that asset purchases might not be having as great an impact as previously thought has become pervasive.

Fed Chairman Ben Bernanke’s 2012 Jackson Hole speech, made just a month before the Fed launched a third round of monetary easing, made a strong, detailed case for how well the policy was working.

Europe may still be ‘on path for a meltdown’: former Obama adviser Goolsbee

Reporting by Chris Kaufmann and Walden Siew

For all the enthusiasm about the euro zone’s exit from recession, many experts believe the currency union’s crisis is more dormant than over. That was certainly the message from Austan Goolsbee, former economic adviser to President Barack Obama and professor at the University of Chicago. He spoke to the Reuters Global Markets Forum this week.  

Here is a lightly edited excerpt of the discussion:

What is your biggest worry about the U.S. economy right now?

A nagging worry is that if we grow 2 percent, it’s going to be a hell of a long time before the unemployment rate comes down to something reasonable. The nightmare worry is that Europe is still basically on path for a meltdown and that it ignites another financial crisis.

In my view the root of the problem is that most of southern Europe is locked in at the wrong exchange rate and will not be able to grow. Normal economics says that with a currency union you can 1) have massive labor mobility, 2) subsidies, 3) differential inflation, 4) grind down wages in the low productivity countries. But those are the only four things.

Why the mediocre U.S. July jobs report was worse than it looked

U.S. economists were generally disappointed with the net gain of 162,000 jobs last month, well below forecasts around 180,000 and market talk of a possible reading above 200,000. The jobless rate did fall to 7.4 percent from 7.6 percent, but labor force participation also resumed its recent descent.

Thomas Lam, chief G3 economist at OSK-DMG/RHB, says the underlying details of the report make employment conditions actually look worse than at first glance. Here’s why:

The most striking aspect of the Jul employment report is that details of the release appear generally weaker than the uninspiring headlines figures.  The nonfarm payrolls print of 162k in Jul, while modestly softer than expectations, was accompanied by narrower gains in private payrolls (the weakest 1-month and 3-month diffusion data since Aug & Sep 2012), and net downward revisions of 26k in prior months (-19k in May and -7k in Jun, confined within private employment).  Moreover, the employment and workweek details from the Jul release imply that real GDP growth in early Q3 2013 might be tracking weaker than the advance Q2 2013 print of 1.7%.

Amnesty for undocumented immigrants would not burden U.S. economy – Levy Economics Institute

The recently passed Senate bill – S. 744, or the Border Security, Economic Opportunity, and Immigration Modernization Act – that would take significant steps toward comprehensive reform, is being held up in the Republican-controlled House of Representatives, with a “path to citizenship” for undocumented immigrants the apparent sticking point.

A recent report from the Congressional Budget Office estimated the following:

All told, relative to the committee-approved bill, the Senate-passed legislation would boost direct spending by about $36 billion, reduce revenues by about $3 billion, and increase discretionary costs related to S. 744 by less than $1 billion over the 2014-2023 period.

Nathan Sheets and Robert Sockin at Citigroup are even more sweeping in their endorsement of immigration’s economic upside:

Recalculating: Central bank roadmaps leave markets lost

Central banks in Europe have followed in the Federal Reserve’s footsteps by adopting “forward guidance” in a break with traditionBut, as in the Fed’s case, the increased transparency seems to have only made investors more confused.

The latest instance came as something of an embarrassment for Mark Carney, the Bank of England’s new superstar chief from Canada and a former Goldman Sachs banker. The BoE shifted away from past practice saying it planned to keep interest rates at a record low until unemployment falls to 7 percent or below, which it said could take three years.

Yet the forward guidance announcement went down with a whimper. Indeed, investors brought forward expectations for when rates would rise – the opposite of what the central bank was hoping for – although the move faded later in the day.

Obama’s second chance to reshape the Fed

Lost in the bizarre Yellen vs. Summers tug-of-war into which the debate over the next Federal Reserve Chairman has devolved, is the notion that President Barack Obama is getting a second shot at revamping the U.S. central bank.

The perk of a two-term president, Obama will get to appoint another three, potentially four officials to the Fed’s influential seven-member board of governors in Washington. This may buy the president some political wiggle room when it comes to his pick for Fed chair, since he might be able to placate Republicans with one or two “concession” appointments. Every Fed governor gets a permanent voting seat on the policy-setting Federal Open Market Committee.

Elizabeth Duke, the last George W. Bush appointee, is already on her way out. So is Sarah Bloom Raskin, who after a relatively short stint at the board is moving to the Treasury, to be Jack Lew’s Deputy Secretary. Then there’s the awkward suspicion that, if Obama passes up Fed Vice Chair Janet Yellen, by far the favorite for the top spot, she will also step down after a long career in the Federal Reserve system, including many years as head of the San Francisco Fed.