Macroeconomics

The latest results from Fulcrum’s “nowcast” models of the global economy, based on data published up to last week, indicate that the dip in global economic activity that was apparent in the early part of this year has now been fully reversed. In fact, in early July the models are reporting that underlying global activity growth has risen to 3.5 per cent, which is the highest since last November, when the Chinese and US economies both embarked on a slowdown. That now appears to have been temporary, and the world economy has resumed growing at near its trend rate.

There has been a simultaneous improvement in activity growth in many regions of the world in the past two months – including in the US, the UK, Japan and China – which increases our confidence that the pick-up in activity is genuine.

However, it is noteworthy that while US activity has now re-accelerated, the euro area has slowed moderately from the firm growth (by its own standards) reported earlier in the year. Therefore a gap of almost 1 percentage point has opened up between US (2.6 per cent) and euro area (1.7 per cent) growth, after a period in which the two regions were running neck-and-neck.

Within the euro area, there has been a marked recent slowdown in Spain, which had previously been the strongest of the major European economies. It is possible that the Greek crisis has had some effects on economic confidence in Spain, as shown in recent weakness in business survey data.

In the emerging economies, recent data have been mixed, with the improvement in China offset by pronounced weakness in Brazil, Russia and some smaller Asian economies. It is too early to conclude that the slowing in activity in the emerging economies is definitively over, but the signs are improving somewhat. Read more

The deleveraging of the Chinese economy has always seemed likely to be a long and troublesome saga, lasting many years or even decades if it is to prove successful. The latest episode involves a sudden collapse in domestic “A” shares, which have dropped by 19 per cent in less than a fortnight, and have triggered what has been widely described as an “emergency” easing in monetary policy this weekend. Read more

Before last week’s FOMC meeting, there was much debate about whether the Fed would officially draw attention to the awful US productivity data that have been published lately. Both William Dudley and Janet Yellen have highlighted the problem in recent speeches, and there was speculation that some members of the FOMC might revise down their estimates for potential GDP growth at the June meeting.

In fact, however, they did not do so, preferring to sweep the problem under the carpet for at least another meeting. Instead, they focused attention on the “gradual” nature of the likely upward path for interest rates after lift-off, which now seems marginally more likely to start in December than in September 2015.

The FOMC’s range for long run GDP growth fell sharply from 2011 to 2013, but has not been changed now for about a year. Potential GDP growth depends on underlying productivity growth, and on the projected growth in the labour force, which is about 0.4 per cent per annum at present. So the Fed’s central projection of 2.15 per cent for potential GDP growth implies a productivity projection of about 1.75 per cent.

The problem, however, is that this range is not consistent with the actual productivity numbers that have been published at any stage during the present economic recovery. Since 2009, productivity has risen at an average of 1.5 per cent per annum while over the past two years it has risen at only 0.5 per cent. Normally, as a recovery matures, productivity growth should be speeding up, but that is not happening this time. At some point soon, the FOMC will need to acknowledge this. Read more

LATVIA- EU-SUMMIT

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As the Greek drama dominated news bulletins throughout the first half of 2015, there was generally little impact on global financial markets, outside Greece itself. It is true that eurozone equities underperformed the world equity market after mid April, but the euro actually strengthened over this period, and the yield spreads between peripheral eurozone bond markets and German bunds widened only slightly, at least until this week.

This general aura of market calmness had consequences for the talks themselves, since it emboldened the Germans and other EU negotiators to take an even harder line with the Syriza-led Greek government. With no hint of a concession to take back to Athens, Mr Tsipras had nothing to sell to the left of his party.

Paradoxically, the fact that the markets remained quiet for months has therefore increased the chances of a major accident taking place as political nerves fray.

The prolonged period of market insouciance should not lull any of Europe’s leaders, headed towards Brussels for an emergency summit on Monday, into a false sense of security. There is no guarantee that the markets would remain relaxed in the case of a Greek default or exit from the euro. The real test starts now. Read more

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Economists have always recognised that the long-run growth of productivity is, in the end, almost the only thing that matters for the living standards of the population as a whole. Recently, there have been significant downgrades to consensus estimates of productivity growth which, if maintained for long, would have enormous effects on the attainable level of gross domestic product per capita.

But the future impact of technology on long-run growth is one of the great unknowns — perhaps even the greatest — in economics.

An excellent example of this uncertainty occurred at the FT Business of Luxury Summit last week, in contributions from Johann Rupert and Martin Wolf. The former painted a picture of unprecedented technical advance, quoting examples from The Second Machine Age by Erik Brynjolfsson and Andrew McAfee. This book has captured the imagination by describing a future in which machine learning increases at exponential speed, rapidly replacing human skills in large parts of the economy. In a world of robot technology, driverless cars and delivery-by-drones, measured productivity growth would surely advance very quickly.

Martin Wolf, however, disagreed. He argued that the great technological advances of the 19th and 20th centuries would not be replicated in the future, so productivity growth would remain subdued, as it has been since about 2003. Sympathising with the somewhat gloomy paper published by Robert Gordon in 2012, Martin felt that the low-hanging technological fruits had already been picked, and that the period of rapid advance that ended in the early 1970s was an aberration.

Who is right? Read more

 

G7 Finance Ministers And Central Bank Govenors Hold 2005 Conference G7 Finance Ministers And Central Bank Govenors Hold 2005 Conference

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This week, I participated in a discussion about the future of the global economy with Martin Wolf and Willem Buiter. The session was at the FT’s Business of Luxury summit in Monaco. Martin’s summary of the discussion appears here.

 

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What can we expect of the world economy over the coming couple of years? Looking into their crystal balls are Willem Buiter, chief economist of Citigroup, and Gavyn Davies, former chief economist of Goldman Sachs and now chairman of Fulcrum Asset Management. Mr Buiter was, and Mr Davies now is, a blogger for the Financial Times.

Martin Wolf: What are your central forecasts for the next two years? . . . READ MORE

To watch videos recorded at the event in Monte Carlo, go to www.ftbusinessofluxury.com. Read more

Global Growth Report Card, June 2015

According to Fulcrum’s “nowcast” factor models, global economic activity has improved significantly in the past month, with data from China and Japan recording stronger growth than has been seen for some time.

The eurozone remains fairly robust (if only by its own rather unimpressive standards), but the US has failed so far to bounce back from a sluggish first quarter, even after the strong jobs report last Friday. There have been further downward revisions to forecasts for US GDP growth in the 2015 calendar year, including notably by the International Monetary Fund. This will be yet another year in which US growth has failed to match the optimistic expectations built into consensus economic forecasts at the start of the year.

Despite some lingering doubts about the US, the improvement in global growth this month has significantly reduced the tail risk that the world might be heading towards a more serious slowdown. The reduced risk of a more severe global slowdown, along with signs of a bottoming in headline inflation in most economies, has probably been a factor behind the sell-off in bond markets in recent weeks, as the perception of global deflation risks has faded.

The regular proxy for global activity that we derive from our “nowcast” factor models (covering the main advanced economies plus China, see graph on the right) shows that activity growth is now running at 3.5 per cent, which means that the slight dip in the growth rate that we identified around March/April has now been eliminated. Although the “recovery” in growth is only around 0.7 per cent from the low point, it is nevertheless significant because it suggests that the risk that a hard landing in China could drag the world economy into a more severe downturn has diminished, at least for now. Read more

Lord Jim O’Neill, formerly my colleague and chief economist at Goldman Sachs, has just delivered his maiden speech as the new commercial secretary at the UK Treasury. He said that one of the government’s “primary objectives is to deliver a step change in the nation’s productivity”. Even for him, this represents a tough challenge. After featuring barely at all in the recent election campaign, low productivity growth has rightly become public enemy No 1.

Falling productivity growth has been an increasingly serious problem for most advanced economies since the early 2000s, when the boost from IT seems to have run out of steam. But the problem has been particularly severe since the 2008 financial crash, and the collapse in the UK since then has been much greater than in other advanced economies.

Overall, UK productivity had fallen about 16 percentage points below its previous trends by 2014, about a quarter of which might be due to faulty measurement in the official data. If the UK government is to make any inroads into the problem, it first needs to solve the “puzzle” of why the rest of this huge shortfall has occurred. Read more

The great financial crash of 2008 was expected to lead to a fundamental re-thinking of macro-economics, perhaps leading to a profound shift in the mainstream approach to fiscal, monetary and international policy. That is what happened after the 1929 crash and the Great Depression, though it was not until 1936 that the outline of the new orthodoxy appeared in the shape of Keynes’ General Theory. It was another decade or more before a simplified version of Keynes was routinely taught in American university economics classes. The wheels of intellectual change, though profound in retrospect, can grind fairly slowly.

Seven years after 2008 crash, there is relatively little sign of a major transformation in the mainstream macro-economic theory that is used, for example, by most central banks. The “DSGE” (mainly New Keynesian) framework remains the basic workhorse, even though it singularly failed to predict the crash. Economists have been busy adding a more realistic financial sector to the structure of the model [1], but labour and product markets, the heart of the productive economy, remain largely untouched. Read more

Ever since the crash in 2008, the central banks in the advanced economies have had but one obsession — how to set monetary policy to ensure the maximum growth rate in aggregate demand. Interest rates at the zero lower bound, followed by a massive increase in their balance sheets, was the answer they conjured up.

Now, those central banks contemplating an exit from these policies, primarily the US Federal Reserve and the Bank of England, are turning their attention to the supply side of their economies. When, they are asking, will output reach the ceiling imposed by the supply potential of the economy?

The Bank of England has been in the lead here, with the Monetary Policy Committee recently conducting a special study of the supply side in the UK. Its conclusion was that gross domestic product is now only 0.5 per cent below potential, which implies that tighter monetary policy will soon be needed if GDP growth remains above potential for much longer.

In the US, the Fed has been much less specific than that, but the unemployment rate has now fallen very close to its estimate of the natural rate (5.0-5.2 per cent). Sven Jari Stehn of Goldman Sachs has used the Fed staffers’ supply side models to calculate that their implied estimate of the US output gap may be only 0.6 per cent, not far from the UK figure.

If the UK and US central banks were to act on these calculations, the implication would be that they no longer hold out much hope that they can ever regain the loss in potential output that has occurred in the past decade, relative to previous trends. That would be a massive admission, with an enormous implied sacrifice in future output levels if they are wrong. It would also be very worrying for financial assets, since it would draw the market’s attention to a downgrade in the Fed’s estimation of the long-run path for GDP. Read more

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Amid further signs of a weakening economy, there is no longer any doubt that a major policy easing is clicking into gear in China. For the first time since 2008, the government has accepted that the economy has hit a patch of serious trouble, and the most recent policy statement by the politburo adopts a much more urgent tone than anything that has preceded it under President Xi Jinping. Read more

For decades, the German bund market was an island of stability in a sea of financial risk and uncertainty, but not any more. In recent weeks, the sharp rise in bund yields has been at the epicentre of global bond market turbulence, with its tremors spreading not only to peripheral eurozone bond markets and the euro, but also to US treasuries, oil prices and the dollar. So far, credit markets and global equities have been hardly affected, but any further disruption in the bond markets would probably cause trouble in risk assets as well.

The sudden reversal in bond markets in the middle of April, coming immediately after the financial markets were said by some commentators to be “running out of bonds to buy” has been one of the sharpest sell-offs seen in fixed income since 2008. It is a salutary reminder of the much bigger shock that might occur when the central banks finally abandon their zero interest rate policies, though this still does not seem imminent. Read more

The latest activity “nowcasts” shown in detail below indicate that the global economy has continued to slow down more than consensus forecasts projected, though forecasters continue to believe that this slowdown will prove temporary.

Data in the US have so far failed to improve, after a very disappointing first quarter of 2015. US activity growth is now estimated at 1.8 per cent, down from 2.0 per cent last month.

Japanese activity in both the industrial and retail sectors has also been weak, with the model’s estimate of activity growth now close to zero, while the UK seems to have slowed to about 1.8 per cent in the run up to next week’s General Election.

Chinese activity dipped sharply last month, and the estimated rate of growth is now 5.3 per cent, well below the government’s 7 per cent target for the 2015 calendar year. Other Asian economies have also slowed, partly due to the effect of the US West Coast ports strike on their exports.

The sole bright spot is the eurozone, where activity growth has improved slightly further to 1.8 per cent, following an encouraging pick-up earlier in the year. The gap between US and eurozone growth has, for now, disappeared completely.

Overall, the growth rate of the global economy has therefore slowed further, according to our models. Our estimate of activity growth in the major advanced economies plus China, which we use as a proxy for global activity, has dropped to 3.0 per cent at the end of April, from 3.7 per cent a month ago. This measure of global activity has now broken below the roughly 4 per cent rate that had been established since mid 2014.

The extent of this growth slowdown has surprised economic forecasters, given the boost to global growth that should have stemmed from lower oil prices, and the aggressively easy policy stance in all the advanced economies. Activity growth needs to recover markedly in the next few weeks if a generalised downgrade to global growth forecasts for the 2015 calendar year is to be avoided. Read more

At the IMF/World Bank spring meetings in Washington a week ago, downside risks to the Chinese economy were discussed solemnly, but calmly. There was no mood of crisis, no feeling that a major dislocation in the economy or the financial sector was imminent. Meanwhile, the surge in Chinese equity prices so far this year hardly seems to indicate an impending recession.

Yet there are signs of trouble ahead. Read more

Downturn In Oil Prices Rattles Texas Oil Economy

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Ever since the collapse in oil prices started last summer, the behaviour of the global economy and financial markets has been heavily affected by the consequences of lower energy prices. Now, however, there is gathering evidence that the primary effects of the oil shock have been absorbed into the system, and there are signs that other forces are beginning to take control. What are these forces, and how will they affect the global economy in the months ahead?

When the oil shock reached its maximum early in 2015, economists were largely agreed on its likely impact. Since it seemed to stem mainly from the supply side of the oil market, not the demand side (a fact corroborated by IMF research last week), it was thought likely to boost real global GDP growth this year by about 0.5-0.75 per cent, leading to a break-out in global growth to the upside. It also had a dark side, increasing the deflation threat in the eurozone and Japan, but this was likely to be offset by further aggressive monetary easing by their respective central banks. Read more

The equilibrium real interest rate continues to lie at the heart of discussions about economic policy in the US and elsewhere. Ben Bernanke has written that the equilibrium rate, and not the FOMC, is the ultimate determinant of interest rates in the economy, and claims that it is discussed at every Fed meeting. The recent debate about secular stagnation between Mr Bernanke and Lawrence Summers centres on a difference about the future path for the equilibrium rate. And Cleveland Fed President Loretta Mester says that it is “the issue policy makers are grappling with” at the FOMC.

Most important of all, Janet Yellen has focused all her intellectual firepower on the subject in her most important speech on monetary policy since she became Fed Chair. In this recent blog, I outlined the meaning of the equilibrium rate, and showed that the FOMC’s implicit forecast for that rate accounts for much more than half of the tightening in US rates indicated in the committee’s dots chart over the next 3 years.

The markets, however, do not believe the dots, and forward rates show a much smaller increase in US rates than the Fed indicates. The future path for bond and equity prices will depend largely on who is right about the equilibrium real rate: the Fed or the markets? Read more

Last month, the global report card concluded that world economic activity was expanding at a roughly constant growth rate, with a slowdown in the US and China being offset by faster growth in the eurozone and Japan.

In March, these broad trends continued, but the decline in the US growth rate became more pronounced, while Japan also slowed sharply. Chinese activity growth has been stable this month. Overall, the global growth proxy that we use for “flash” monthly estimates (ie the advanced economies plus China) dropped a little in March, causing some concern that the downward momentum in the US may be beginning to dominate the picture.

However, there is much brighter news from the eurozone, where the peripheral economies (notably Spain and, now, Italy, are reporting much firmer growth rates. Furthermore, the UK is still doing very well, and Sweden is accelerating markedly. France is an important exception to this general rule of improving European growth trends.

We will be watching global activity indicators very carefully at the start of the second quarter to determine whether a further and more worrying slide in growth momentum is taking hold. At present, we do not expect this to happen, but we now have somewhat greater concern about the status of the global economic cycle. Read more

Yellen Discusses Monetary Policy At Federal Reserve Bank In San Francisco

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The financial markets listened to Janet Yellen’s speech on “normalising” monetary policy last Friday, shrugged, and moved on largely unaffected. It was, indeed, a dovish speech, of the type that had been foreshadowed at her press conference after the FOMC meeting in March (see Tim Duy for a full analysis). But it also spelled out her analytical approach to monetary policy more clearly than at any time since she has assumed the leadership of the Federal Reserve.

In the speech, the Fed chairwoman used the term “equilibrium real interest rates” no less than 25 times. This concept is very much in vogue at the Fed. The Yellen speech uses it to explain what she and Stanley Fischer mean by “normalising” interest rates. It was also at the centre of Ben Bernanke’s first forays into economic blog writing this week, which reminds us that it has some pedigree at the central bank.

 Read more

Yellen Discusses Monetary Policy At Federal Reserve Bank In San Francisco

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Now that the Federal Reserve has announced that its policy stance after June will be entirely “data determined”, the markets are watching the flow of information on US economic activity even more carefully than usual. Since 2010, there has been a recurring pattern in US GDP projections. They start optimistically, but are then progressively downgraded as the economic data come in.

Entering 2015, I was fairly confident that this depressing pattern would finally be overcome, but not so far. In the last few weeks, there has been a sharp downward adjustment to GDP growth estimates for the first quarter, and this has added to the market’s scepticism about whether the Fed will be ready to announce lift off for interest rates this summer. Read more

The Federal Reserve Begins Last Meeting Of 2008

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When the Brazilian finance minister Guido Mantega complained that the Federal Reserve was waging a currency war against his country in September 2010, his comments led to a wave of sympathy and concern. The Fed’s aggressive monetary easing was causing a capital flight from the US into the apparently unstoppable emerging markets.

Uncompetitive exchange rates and domestic credit booms in the EMs were the result of US quantitative easing. American monetary policy makers showed little sympathy, arguing that the US had its own domestic inflation and unemployment mandates to worry about. If the dollar fell in the process, so be it.

That episode proved short lived. The Brazilian real is now a chronically weak currency. Yet the term “currency wars” has stuck. It is now alleged that almost all the major central banks are engaged in weakening their currencies, if not against each other then certainly relative to commodities, goods and services. Read more