This is a good thing.

TO BE NOTED: From Alea:

"GDP: Not THAT Bad

The real change in private inventories subtracted 2.79 percentage points from the first-quarter change in real GDP after subtracting 0.11 percentage point from the fourth-quarter change.

This is a good thing.

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Posted by -jck"

Change in private inventories. 6th down quarter in a row

TO BE NOTED: From Alea:

"GDP: Change in Private Inventories (Pictures)

Below, Change in private inventories. 6^th down quarter in a row.

Gross private domestic investment (blue) and Fixed investment (red).
(The difference between the two is “Change in private inventories”)
Add:
gross private domestic investment is at a 12-years low.

Source: B.E.A. National Income and Product Accounts Table
Table 1.1.6. Real Gross Domestic Product, Chained Dollars
[Billions of chained (2000) dollars] Seasonally adjusted at annual rates

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Posted by -jck"

business sector, where firms halted new investments, and shed workers and inventories at a dizzying pace

TO BE NOTED: From EconomPic Data:

"Q1 GDP Down 6.1%

Marketwatch reports:

The U.S. economy contracted violently again in the first quarter of the year as business investment declined at a record rate, the Commerce Department reported Wednesday. Real gross domestic product fell at a 6.1% annualized rate in the first quarter, nearly matching the 6.3% decline in the fourth quarter of 2008. The two-quarter contraction is the worst in more than 60 years. The big story for the first quarter was in the business sector, where firms halted new investments, and shed workers and inventories at a dizzying pace to bring down production and stockpiles to match the lower demand from U.S. and foreign markets.

Source: BLS

Posted by Jake at 5:33 AM ShareThis

0% of respondents perceived inflation as the biggest threat to their forecast

TO BE NOTED: From Econbrowser:

"Growth Expectations Stabilize

The WSJ survey of forecasts has just come out [link]. One key finding is that the mean forecast has barely budged since March. In other words, unlike previous months, the perceived outlook has ceased deteriorating.

That being said, the dispersion of forecasts is pretty high, even q4/q4, ranging (-3.5%, 3.4%).

Figure 1: Histogram of 4q/4q growth rate of real GDP (in percent) from March WSJ survey. Source: WSJ April survey and author's calculations.

One is tempted to ask who is forecasting 3.4%. That would be James F. Smith, of Western Carolina State University and Parsec Financial Management. Dr. Smith has been extremely consistent in his forecasts for q4/q4 growth, having forecasted 3.4% in the December 2008, as well as in the January, February and March 2009 surveys (I didn't go further back than December...). Note that once his forecast is removed, the distribution of the survey responses is approximately Normal (i.e., a Jarque Bera test can't reject the null of a Normal, at the 43% msl). In addition, the mean growth rate drops to -1.48%.

I noted in the first paragraph that the mean forecast had ceased deteriorating. One can see this if one plots the March and April mean forecasts. The forecasted trajectory of GDP is essentially unchanged. One has to go back to the February forecast to see the detioration, as is shown in Figure 2.

Figure 2: Log real GDP (blue), April WSJ survey mean forecast (red), real GDP advance (teal), February WSJ mean forecast (pink), CBO potential GDP (black), all in log of Ch.2000$. Source: BEA GDP final and advance releases, WSJ, CBO, NBER and author’s calculations.

In this sense, the statements by several individuals that the outlook has stopped deteriorating are consistent with forecasters' views. [0] [1] However, this is not the same as saying economic conditions have stabilized. In fact, the mean GDP forecast still indicates continued decline into 2009Q2. And of course, means by definition do not show the variance in forecasts.

Because of the aforementioned sensitivity to outliers (I'll call it the James Smith problem), I've plotted in Figure 3 (log) real GDP, the mean WSJ forecast from the April survey, and trimmed high and low forecasts (that is, looking at the 6th highest and 6th lowest q4/q4 forecasts; thus I've dropped the top 5 and bottom 5, out of 54 forecasts).

Figure 3: Log real GDP (blue), April WSJ survey mean forecast (red), trimmed high and trimmed low forecasts (gray), CBO potential GDP (black), all in log of Ch.2000$. Source: BEA GDP final release, WSJ, CBO, NBER and author’s calculations.

The mean forecast implies that the output gap will be -8% (in log terms) in 2009q4. If the optimists are right, then the output gap will only be -6%.

The survey was conducted between April 3-6. Thus, they came before the trade release for February. Since the trade balance was above consensus, conditional nowcasts of GDP have probably risen [2].

On the other hand, the OECD forecast cited in this post implies continued decline throughout 2009. I'm not certain why the OECD is so gloomy (or alternatively, why the US-based forecasters are so optimistic). Using the OECD forecast and the CBO potential, the output gap will be 10.9% (log terms) by 2010q4. Perhaps this is in part due to a more pessimistic assessment of potential GDP (eyeballing the "Output Gap" table in Appendix 1.2 of the March OECD Economic Outlook, it seems that the OECD's estimate of potential is about 1.2% ppts less CBO's).

A final observation: given the substantial negative output gap under reasonable assumptions, it's hard for me to be particularly worried about inflation in the current year, as evidenced in some fevered accounts (e.g., [3]). Given that 0% of respondents perceived inflation as the biggest threat to their forecast, I think I'm in good company. (Digression: in 2000-01, when I was following the Japanese economy on the CEA staff, I also heard worries about hyperinflation in the wake of rising debt-to-GDP ratios; so far we haven't seen that outcome materialize).

Technorati Tags: recession, GDP, inflation,output gap, potential GDP, hyper-inflation, and forecast.

Posted by Menzie Chinn at April 10, 2009 09:00 PM"

Q4 GDP Final vs. Advanced

TO BE NOTED: From EconomPic Data:

"Q4 GDP Final vs. Advanced

Source: BEA

Posted by Jake at 5:40 AM

"It was a largely unregulated system. And it was largely offshore, at least legally. "

Brad Setser:

"The collapse of financial globalization …

Posted on Monday, December 29th, 2008

By bsetser

The last six months — if not the last year — logged what felt like a decade’s worth of financial news. So perhaps it isn’t surprising that swings that normally would attract an enormous amount of attention have gone almost unnoticed. Like the near-total collapse of private capital flows.

Both private capital inflows to the US and private capital outflows from the US have fallen sharply. They have gone from a peak of around 15% of US GDP to around zero in a remarkably short period of time …( FEAR AND AVERSION TO RISK )

The fall in private flows over the last four quarters has been much sharper than the fall in the US current account deficit. The current account deficit continues to hover around $700 billion (5% of US GDP). Financial globalization — the growth in private cross-border flows, and associated rise in private inflows and private outflows — doesn’t seem to have been as central to the ability of the United States to sustain large current account deficits as some thought back in 2004 and 2005.( INTERESTING )

The preceding graph is based on the BEA’s balance of payments data, scaled to US GDP (the quarterly data was transformed into an annual series by calculating a rolling 4q sum and the sign on private outflows was reversed). I did adjust the latest BEA data in one way. From q2 2007 on I subtracted “private” purchases of Treasuries from the “private’ total. The last survey of foreign portfolio holdings — which revised the data from mid-2006 to mid-2007 — basically re-attributed all private purchases of Treasuries from private investors in the UK to the world’s central banks. My adjustment thus anticipates the revisions that are likely to follow from the next survey.*

But even if “private” Treasury purchases since mid-2007 are counted there still would have been a stunning fall in private capital flows. Direct investment flows have continued. Other financial flows though have largely gone in reverse, with investors selling what they previously bought.( FLIGHT TO SAFETY ) In the third quarter foreign investors sold about $90b of US securities (excluding Treasuries) and Americans sold about $85 billion of foreign securities. And the reversal in bank flows on both sides (as past loans have been called) has been absolutely brutal. ( FROM THE CALLING RUN? )

This sharp fall has bearing on the bigger debate over the role global capital, global savings and foreign central banks played in helping to to create the conditions that allowed US households to sustain a large deficit for so long — and whether American and other policy makers should have paid more attention to the risks that came with the surge in foreign demand for US financial assets earlier this decade.

Back in 2004 and 2005 — when it was beginning to be apparent that the growth in central bank reserves had led to unprecedented demand for US assets from reserve managers — many argued that central banks weren’t as important to the financing of the US deficit as it seemed. While net central banks demand seemed large in relation to net private demand for US assets, central banks only accounted for a small share of gross inflows — and in some sense total foreign purchases of US assets matter more than anything else. Ergo, central bank demand wasn’t central to the ability to the United States’ ability to sustain large current deficits, whether from large fiscal deficits (03-04) or a rise in household borrowing (05-06).

Fair enough. But even then it seemed like the increase in private inflows was tied to an increase in private outflows, so there was a reason why the growth in private flows wasn’t generating much net financing. Note how closely gross inflows and gross outflows move together in the graph — setting aside the inflows attracted by high US interest rates in the 1980s and the period in the late 1990s when foreign investors really were clamoring to buy US equities. Most of the rise in total flows reflected a rise short-term flows and short-term cross-border bank flows often seem to offset each other. Or to put it a bit differently, the US deficit has not been financed by short-term borrowing from the world’s private banks. ( OK )

Think of the process this way. Suppose a US bank lends a billion dollars to a bank in London that lends that money to a hedge fund domiciled the Caribbean that buys a billion dollars of US securities. That chain results in an outflow and inflow, but the outflow just financed the inflow — it doesn’t help to finance the current account deficit. By contrast, China’s purchases of Treasuries and Agencies reflect in large part China’s current account surplus — not Chinese banks borrowing from US banks. They certainly help to finance the US current account deficit.

I think we now more or less know that the strong increase in gross capital inflows and outflows after 2004 (gross inflows and outflows basically doubled from late 2004 to mid 2007) was tied to the expansion of the shadow banking system.( OK )

It was a largely unregulated system. And it was largely offshore, at least legally( THIS IS WHAT I SAY WOULD HAVE HAPPENED WITH MORE US REGULATION ). SIVs and the like were set up in London. They borrowed short-term from US banks and money market funds to buyer longer-term assets, generating a lot of cross border flows but little net financing. European banks that had a large dollar book seem to have been doing much the same thing.** The growth of the shadow banking system consequently resulted in a big increase in gross private capital outflows and gross private capital inflows.

Those private flows have now disappeared, or even reversed. They actually started to disappear back in August 2007. That didn’t keep the US from continuing to run a large (5% of GDP) current account deficit. The fall in private flows has been far sharper than the fall in the current account deficit.

Why didn’t the total collapse in private flows lead financing for the US current account deficit to dry up? That, after all, is what happened in places like Iceland — and Ukraine.

My explanation is pretty straightforward.

Central banks were the main source of financing for the US deficit all along.*** Setting Japan aside, the big current account surplus countries were all building up their official reserves and sovereign funds — and they were the key vector providing financing to the deficit countries.

And when (net) private demand for US assets fell, official flows picked up. As I noted earlier, private purchases of Treasuries after June 2007 are almost certainly really official flows. If those purchases are added to recorded official flows,**** total official flows over the last four quarters of data (q4 07 to q2 08) now almost match the current account deficit.

That is true even though I have calculated net official flows — and in the third quarter of 2008 for the first time in a long time the US central bank was a net lender to the world. Yep. The Fed provided $226 billion of credit through various swap lines in q3, and foreign central banks only bought $118 billion of US assets. This shows up cleanly if official inflows are plotted against official outflows (the graph is done on a rolling four quarter basis).

Central banks lent the proceeds of their swap lines with the Fed to private banks abroad, and private banks in turn repaid their maturing dollar debts — so the swap lines financed the unwinding of existing US loans to the rest of the world. Call it facilitating the unwinding of some of the legacy of the excesses of the past few year. Or call it a new wave of financial globalization, one led by the central banks …

At this point, I don’t really think that there can be much doubt that the enormous increase in central bank reserves over the last five years was central to the process that allowed the US to run large current account deficits during a period when private demand — that is private inflows net of private outflows — for US financial assets wasn’t there. At least not on the scale needed to finance the United States big deficits.

In my judgment, the US housing bubble — and the associated rise in private consumption as households borrowed against the rising value of their home — wouldn’t have been able to grow for as long as it did without this inflow from the rest of the world. But that is a story for a different post.( I NEED TO SEE THAT )

*Watch what happens when the data from the June 2008 survey is released. I would expect a large upward revision in official inflows from q3 07 to q2 08. The BEA data currently indicate $478 billion in official purchases over these four quarters and another $256 billion of private purchases of Treasuries.
** We know this in large part because of how much they have borrowed (indirectly, through their “home” central bank) from the Fed after financing from the interbank market and US money market funds dried up after Lehman’s collapse.
*** In theory, central banks could have bought a lot of euros and private European investors could have bought a lot of US assets, allowing the US to run a large deficit financed by European private investors even in the absence of a European current account surplus. This perhaps happened to an extent — but it seems to have been less important than central bank purchases of dollar assets.
**** This still likely under counts total official flows. Before they stopped buying Agencies this fall, central banks (especially China’s central bank) also bought Agency bonds from private intermediaries, so the survey tended to revise private Agency purchases down and official purchases up. And even the revised data doesn’t seem to pick up a large fraction of Gulf purchases — whether purchases of “risk” assets by sovereign funds or “safe” assets by SAMA (the Saudi Monetary Agency) and Gulf central banks."

I would expect the Central Banks of Saver Countries to be the buyers of our Treasuries and Agencies, and Japan to do so in order to keep exports high. This fits in with two of my predictions:

1) It is the Saver Countries ( China, Germany, Japan ) that want to really keep this current arrangement going.

2) Investors would simply have done more offshore investing had the US had tougher regulations.

I would add that two main problems:

1) The Flight To Safety ( Into Treasuries )

2) The Calling Run ( The need to raise capital )

Are bound up with this system. How? Very simple. As I've said before, foreign investors were also counting on strong and decisive government intervention in a financial crisis. They were directly tied into the same ideas and presuppositions as US investors. Our leaders didn't perceive that we were the LOLR for the whole world, and the Implicit And Explicit Guarantees extended to the whole world, by these Central Banks buying our debt.

"In the last three months, real wages did in fact rise at a 14.8 percent annual rate"

Dean Baker points out something that should be obvious, that, if prices on goods go down, and your wages remain the same or go up, your buying power increases:

"Suppose Real Wages Rose by 15 Percent and No One Noticed

Well, you don't have to suppose. In the last three months, real wages did in fact rise at a 14.8 percent annual rate, and no one in the media noticed, or if they did, they didn't bother mentioning it.

The basic story is simple. Nominal wages have continued to grow at a modest 3.2 percent annual rate. Meanwhile prices have plunged, mostly importantly the price of oil. This implies rapidly rising real wages. That is very good news for the folks who still have a job.

Reporters should have been talking about the surge in real wages, but they seem to have largely missed it. Here's a column I wrote on the topic."

There are some winners in Deflation. However, whether long term Deflation would effect some of these current winners negatively, is a good question. I wouldn't like to bet on it.

Felix Salmon, once again, has something to say:

"Dean Baker sees the upside of the recession:

You probably didn't see this in the newspapers, but real wages rose at an incredible 14.8% annual rate over the last three months. The basic story is straightforward. While nominal wages have continued to grow at a modest 3.2% annual rate, prices have plummeted, hugely increasing the value of the paycheques of those workers lucky enough to still have a job...
The real lesson that the public should learn from recent experience is how the income of one segment of society is a cost to others. The wealthy understand this point very well...
If they can get low-paid workers to tend their gardens, serve them meals in restaurants, paint their homes and serve as nannies for their children, it raises their standard of living...
In the same vein, when the rich lose wealth it is a gain to everyone else. In short, they have our money.

This doesn't feel right to me. Yes, it's true that the working classes saw their standard of living stagnate during the years when the income and wealth of the rich was soaring. But it's also true that the single event which most soured working-class Americans on Republican pro-rich economic policies was not the rich getting richer but rather the rich getting poorer when the stock market plunged in October. ( I HAVE A SLIGHTLY DIFFERENT PERSPECTIVE, WHICH IS THAT NO ONE CARES ABOUT THE RICH IF THERE'S A RISING MIDDLE CLASS AND A DECREASING LOWER CLASS, BUT THEY DO IF THE RICH GET WEALTHIER AND THE OTHER CLASSES STAGNATE OR SUFFER. MY PERSPECTIVE IS THAT ONLY A SOCIETY WITH A GROWING MIDDLE CLASS AND DECREASING LOWER CLASS IS SUSTAINABLE IN THE LONG RUN, AND IS THE ONLY REAL HOPE FOR A SOCIETY WITH A MUCH SMALLER GOVERNMENT, WHICH IS NO LONGER FELT TO BE AS NECESSARY. )

What's more, it's not easy to come up with examples of any country where the poor have seen a sustained increase in their standard of living as the rich have gotten significantly poorer. And if you're a low-paid waiter or painter or nanny, you're unlikely to feel better off when you're fired by your formerly-rich patron.( IF THE POINT IS THAT THERE WILL ALWAYS BE WEALTHY PEOPLE IN A FREE SOCIETY, THEN THE ANSWER IS YES. )

Baker's solution to this last problem is simple:

This just points to the urgency of a large government stimulus package. We need to replace the consumption of stockholders and homeowners with some other form of demand( I AGREE, BUT DISAGREE WITH HIM ON HOW TO DO IT. I BELIEVE IN SOCIAL SAFETY NET SPENDING AND INFRASTRUCTURE SPENDING THAT'S NECESSARY ON ITS MERITS, BUT I ALSO BELIEVE IN TAX CUTS. MY SOLUTION WOULD HAVE BOTH, BECAUSE I'M MAINLY FOCUSED ON ATTACKING THE FEAR AND AVERSION TO RISK. ). The government has the capacity to spend enough money to replace this demand (as Fed chairman Ben Bernanke said, we can always print more money( I AGREE).

This obviously isn't a permanent solution, and I wonder whether it's feasible even on a temporary basis( I BELIEVE THAT IT IS ). Does anybody have a ballpark number for how much the consumption of the rich has declined? I suspect that the drop-off in real-estate consumption alone is greater than any stimulus plan which we're likely to see.

But the real gain of the workers at the expense of the wealthy will come only if rents start declining. I'd love to see some numbers on the average rent paid by non-homeowners: does anybody collect that data?

Update: An email correspondent sends in some historical perspective:

In the US and much of Western Europe 1950-1980 the rich stagnated while the real standard of living of the rest improved.
In Revolutionary France the seizure of the assets of the aristocracy and the church and the elimination of many tolls, the emancipation of remaining surfs, and ending of the oppressive tithe system improved the standard of living of the middle and poor at the expense of the rich, at least those who did not die as cannon fodder.

Here's Casey Mulligan:

"Real Personal Income is Higher than Ever

[all of the statistics below are seasonally adjusted by the BEA or BLS]

Today the Commerce Department released its estimate of November nominal personal income, 12.1638 trillion dollars (at annual rates).

ECONOMICS 101: DIVIDE BY CPI

The press is emphasizing that the figure is 0.2 percent less than in October. But let's not forget that the BLS reported that consumer prices were down 1.7% over the same time frame. That means a real personal income INCREASE of 1.5% in just one month! ( TRUE )

We can argue about how exactly to deflate, but no resolution of that argument is going to change this 1.5% gain into a measure that screams disaster.

I'm not sure why the Commerce Department does not report real personal income, although at the bottom of its report it does show real disposable personal income, which was 1.0 percent HIGHER in November than in October. That's their calculation -- not mine -- so don't blame me from ruining your "economic disaster" parade.

Today's Commerce Department shows data back to April: over that time frame, personal income deflated by CPI was highest in November. I am pretty sure that makes November higher than ever!( COULD BE )

REAL PER CAPITA

If you like things in per capita terms, November real personal income (at a monthly rate) was $3311.61 per person. That's the second highest ever, with the first highest being $3311.79 per person in May. That's right, we missed the real per-capita record by 18 CENTS per person. Enough said! ( TRUE )

GUESS AT Q4 REAL GDP

The experts are saying that real GDP (at quarterly rates) will be more than 1 percent lower Q4 than Q3. Are any experts reading this? Can they explain to us why they have that expectation, given that October real personal income (quarterly rate) EXCEEDED the Q3 real personal income by 1.2 percent and November EXCEEDED it by 2.8 percent? Are you predicting that real personal income will fall more than 10% in just one month, in order to bring the Q4 average down that far? Or are you predicting a huge departure between the growth rates of real personal income and real GDP?

I am admittedly an amateur at high frequency forecasting (it has less to do with the basic economic forces I have been emphasizing, which may take a couple of quarters to work out), but there are enough significant inconsistencies with the experts' forecasts that I have to issue my own:

• Q4 real (and seasonally adjusted) personal consumption expenditure will fall less Q3-Q4 than it did Q2-Q3.
• Q4 real (and seasonally adjusted) GDP will fall less than 1.0% (that is: less than 4.0% at annual rates) Q3-Q4, and may rise.
• Q4 labor productivity will be higher than Q3's (that is, productivity growth Q3-Q4 will not be negative)."

I have to admit to being with Casey on this, so I pray that he's correct.

Here's Robert Frank from the WSJ about the decline in the fortunes of the wealthy:

"By ROBERT FRANK

Economic inequality has become a hot-button issue on the presidential-campaign trail, with Sens. John McCain and Barack Obama sparring about spreading the wealth in America. Yet even as the rhetoric about inequality is rising, inequality itself is falling, economists say.

The reason: The financial crisis is draining the rich of some of their riches.

Over the past week, the McCain campaign attacked Sen. Obama as "the wealth spreader" for his now-famous remark to "Joe the Plumber" that, "I think when you spread the wealth around, it's good for everybody." Sen. McCain also likened his Democratic rival's tax plan to socialism, because it would raise taxes on those making more than $250,000 and lower taxes, or keep them level, for the middle class.

"You see," Sen. McCain said in a recent radio address, "he believes in redistributing wealth, not in policies that help us all make more of it."

Sen. Obama, who made the growing U.S. wealth chasm a pillar of his campaign from the start, argues for more-progressive tax policies that would shrink that gap and allow more Americans to share in the country's economic gains. Campaigning in Florida last week, he said Sen. McCain's tax plans -- like President George W. Bush's -- would "give more and more to those with the most, and hope prosperity trickles down to everyone else."

But the debate over rich versus poor ignores the changes likely to result from the financial crisis. If history is any guide, the upheaval already is shrinking inequality and could continue to narrow the wealth gap.

The share of income held by the richest 1% of Americans has declined during each of the past three downturns. Between 2000 and 2002, their share fell to 16.9% from 21.5%, according to Internal Revenue Service income data compiled by economists Emmanuel Saez and Thomas Piketty.

Their share also fell during the 1990 recession, hitting 13.4% in 1992 compared with 15.5% in 1988. The steepest decline was during the Great Depression, when the richest 1% saw their share of income plunge to 15.5% in 1931 from 23.9% in 1928.

"The Depression may be the best analogy for today when it comes to what will happen with income shares," said Mr. Saez, an economics professor at the University of California, Berkeley. He predicts that the share of income held by the top 1% will probably fall to 18% or 19% in the next year or two -- down from an estimated 23% or 24% in 2007.

Getty Images

Sen. Barack Obama walks with Sen. John McCain and wife Cindy.

During the Depression, the assets of the wealthy declined along with their incomes. In 1928 the richest 1% held 36.5% of the nation's wealth; by 1932 it shrank to 28%. Studies by other economists and researchers show similar declines.

The main reason for the declines: falling stock values. The wealthiest Americans have a greater share of their wealth concentrated in stocks and financial assets. When stocks plunge, as they have lately, the rich are hit disproportionately.

The wealthiest 1% of Americans held more than half the nation's direct holdings of publicly traded stocks in 2004, according to the Federal Reserve. Stocks accounted for 11% of their wealth, compared with less than 3% for Americans in the 50th to 90th percentiles. The rich also earn more of their incomes from stock options.

Of course, the rest of America also is losing wealth and income -- from falling home prices, rising unemployment and declining 401(k) accounts. But rising inequality has largely been fueled by surges at the top, and without capital gains or soaring business profits, those gains will reverse.

Robert J. Gordon, an economist at Northwestern University, says job losses in finance -- which accounts for an outsize share of wealthy income earners relative to other industries -- also will shrink the income and wealth share of the rich. Government limits on compensation imposed by the economic-rescue plan also could have a mild impact, he said.

So could a narrower wealth gap become the silver lining of the crisis? "Only if you don't like rich people," says Len Burman of the Tax Policy Center. "It's not like their share decline brings improvements for the middle class or the rest of America."

The bigger question is whether the falling fortunes of the rich and the coming decline in inequality will alter plans to tax the wealthy more. Some Democrats in Congress are urging Sen. Obama to go further with his plan to raise taxes on the wealthy if he becomes president.

"Inequality became the central argument for raising taxes on the wealthy," says Alan Reynolds, senior research fellow at the conservative Cato Institute. "Now that's obviously wrong. To the extent that there were perceived excesses in CEO pay, a lot of those were from the investment banks. Now the investment banks don't exist. And some of those CEOs have lost their shirts."

Adds Edward Wolff, an economist at New York University: "Now that the top has taken this hit, I think the whole issue of inequality is going to move to the back burner. The political momentum to do something about inequality may be gone -- at least for now."

Some economists say it would be wrong to abandon efforts to restrain inequality based on a momentary fall.

"Inequality cannot be totally undone by the financial bust," Mr. Saez says. "Policy makers now have a golden opportunity, like Roosevelt, to do something more permanent."

Mr. Saez says the next president should follow the example of President Franklin D. Roosevelt and impose crisis measures -- tax increases for the wealthy, massive public-works and jobs programs -- that helped usher in more than 40 years of more even wealth distribution.

The fall in inequality is unlikely to last. Immediately after the 1990 and 2000 recessions, wealth and income shares of the top 1% resumed their upward march. The share of income held by the top 1% rebounded after the 2001 downturn to 22.8% in 2006 -- the highest level since 1928.

When the stock markets return, so will inequality."

There you go. The question is what happens to the wealth of the Middle and Lower Classes.

"it indicates a modest decline of uncertainty since October 2008, suggesting that the worst may be behind us. "

I tend to agree with this post on Vox by Michelle Alexopoulos Jon Cohen:

"This column claims that uncertainty shocks affect on economic activity with remarkable swiftness, strength, and durability. Capturing expectations of average citizens in Main Street through the use of keywords in main newspapers, it indicates a modest decline of uncertainty since October 2008, suggesting that the worst may be behind us.( I AGREE )

It’s official. As everyone now knows, the US economy is in recession and has been since December 2007. If the contraction continues for another four months, which at this point seems inevitable, this downturn will match the two longest peak to trough slides in the Post-WWII period, the first from November 1973 to March 1975, the second from July 1981 to November 1982. Whether the current recession achieves the dubious distinction of matching unemployment rates of the earlier ones (9% in May 1975 and 10.2% in November 1982) remains to be seen, but the dramatic rise in unemployment announced on 5 December 2008 is worrisome. As for the stock market, the decline of the Dow Jones Industrial Average from its peak in July 2007 to its low point on 20 November 2008 actually exceeds by a few percentage points the 40% drop between October 1972 and October 1974. And, of course, the catastrophic fall in house prices continues unabated. In short, the economy is in serious trouble and it is likely to get worse before it gets better.( TRUE )

Nick Bloom, in a recent Vox column, uses links he has identified in his academic research between uncertainty shocks as measured by changes in expected volatility of the S&P 100 – the so-called investor fear index – and GDP growth to predict the length and depth of the current downturn. He predicts, on the basis of a dramatic jump in expected volatility caused by the credit crunch, a GDP decline of 3 percentage points in 2009 with recovery starting at the very end of year, assuming favourable government policies and a drop in volatility. Fear and uncertainty with all its associated collateral damage – postponed investment, limited structural change, and delayed consumption – indeed would seem to stalk the land.( I BELIEVE THAT THE FEAR AND AVERSION TO RISK IS THE MAIN CAUSE OF OUR CURRENT SITUATION )

From Wall Street to Main Street

Bloom’s argument depends heavily on the reliability of the expected volatility index( I BELIEVE THAT IT IS GOING DOWN ) as an indicator of uncertainty. Although his research results are compelling, it is still reasonable to wonder if his results are sensitive to his uncertainty measure. Or, to put it another way, are the forces that shape expectations among the Wall Street crowd the same as those that affect the folks on Main Street? In short, would the use of a more broad-based indicator of uncertainty alter the observed link between uncertainty shocks, output, and productivity? This is the question we are addressing in our current research. In brief, here’s what our preliminary results tell us.

Uncertain times, uncertain measures

We base our index of economic uncertainty on the number of articles that appear in the New York Times which use the terms uncertain and/or uncertainty and economic and/or economy( I'VE NO IDEA HOW RELIABLE THIS IS ). The beauty of the measure is that it is consistent over a very long time span (the New York Times searchable data base extends back into the nineteenth century), it is transparent and unfiltered (as they say, all the news that’s fit to print), and it approximates what the average Main Street resident knew about current events. In Figure 1, we present our monthly uncertainty index (adjusted for the days of each month) with NBER business cycle reference dates in the background, to show it adheres closely to business cycle dates. Moreover, as Figure 2 illustrates, the timing of the uncertainty shocks identified by Bloom’s uncertainty index (based on S&P volatility) and ours are quite similar.

Our statistical results suggest that uncertainty shocks act on economic activity with remarkable swiftness (the shock has an almost immediate negative impact on growth and productivity), strength (they explain over 25% of the variance of output and productivity within two years), and durability (the effects linger for a number of quarters). Moreover, the current uncertainty shock - that effectively dates from the Bear Stearns bailout( THIS INTERESTS ME ) - is the largest of the twentieth century, greater even than that associated with the October 1929 stock market crash.

The dreaded D-word

Of course, the obvious question is what does all of this mean for Main Street and its inhabitants? Many are now prepared to put the current crisis in the same league as the dreaded Great Depression. They point out that in both periods there were significant bank failures, sharp declines in equity and housing prices, and a severe credit crunch. However, the current policy responses have been vastly different, in large part because Federal Reserve Chairman Bernanke, an expert on the Great Depression, has used his deep knowledge of that event to avoid the errors of the past. Unlike in the 1930s, the monetary authorities have moved swiftly to increase liquidity, push down interest rates, and bolster the stability of the financial system. As it happens, our regression results suggest that these policy responses make a big difference. That is, when we introduce interest rates (the policy variable) into our regressions, we find that the economic contraction is likely to be closer to the 1%( I TEND TO AGREE ) predicted by the OECD than to the 3% predicted by Bloom.¹

Could the worst be over soon?

In spite of the very real threats to the US (and world) economy, a little perspective is in order. First, we have survived sharp jumps in uncertainty in the past – July 1971, January 1991, September 2001 (see Figures 1) – and will do so again( TRUE ). In this respect, it is also worth noting that the pattern displayed by our uncertainty index for the current crisis resembles more the sharp, short-lived ups and downs of the 1970s and early 2000s than it does the long drawn out rise and sluggish fall of the Depression years. This would seem to suggest that the current crisis, despite its gravity, does not mark the end of the world as we know it( I AGREE ). Second, in keeping with the old adage that it is often darkest just before the dawn, the numbers in Table 1 indicate that the light of a new day may just be visible on the horizon. Our uncertainty index, in this case based on data from six major US newspapers, shows a sharp run-up in uncertainty through October 2008 and a modest decline since. Two months do not make a trend but the drop is definitely encouraging( IT IS ). Although the negative economic consequences of the severe shock are likely to dog the economy for some time, we would guess that the worst is, indeed, behind us. Or, to employ Bloom’s horror film metaphor, the credit crisis has us (with good reason) perched on the edge of our seats, white-knuckled and wide-eyed. But, it is well to remember that the heroine while a little worse for wear, usually lives to welcome the dawn of a new day.

Newspaper	Average daily number of articles with keywords ("uncertainty” or “uncertain” & “economic” or “economy”)					Average week-day circulation
	2007	2008a	Selected months			30 Sept. 2008
			October	November	Decembera
New York Times	1.09	2.33	4.13	3.87	3.11	1,000,665
LA Times	0.65	1.07	2.00	1.27	1.44	739,147
USA Today	0.23	0.47	0.68	0.60	0.75	2,293,310
Wall Street Journal	1.98	3.38	5.29	3.43	2.56	2,011,999
Washington Post	0.76	1.58	3.48	1.90	2.22	622,714
Chicago Tribune	0.56	1.07	1.32	1.60	1.67	516,032
Circulation-weighted average	0.95	1.75	2.88	2.10	1.85	na

a. Values reported for 2008 are through 9 December 2008.

References

Alexopoulos, M. and Cohen, J. 2008. Uncertain Times, Uncertain Measures. Manuscript. University of Toronto, 2008.
Bloom, N. 2007. The impact of uncertainty shocks. National Bureau of Economic Research, Working Paper W13385. Issued in September 2007.
Bloom, N. 2008. The credit crunch may cause another great depression. VoxEU, 8 October 2008.
Bloom, N. 2009 will be the Nightmare on Main Street. VoxEU, 18 November 2008.
OECD. 2008. Economic Projections for the US, Japan & Euro area. Press Conference 11 November 2008.

---

1. Our predictions are made from standard Vector Autogression (VAR) forecasts. While our bivariate analysis suggests a decline of approximately 3%, the addition of interest rates into the system cut the forecasted decrease to 1%."

My own opinion comports with this. As the level and breadth of the government guarantees are absorbed, and the government reacts with various incentives against the fear and aversion to risk, and as the Bush Administration departs, it's possible that uncertainty and fear will start declining in earnest. I'm leaving it at this just in case this opinion turns out to be idiotic.

"In 1943 and 1944, government spending hit 44 percent of the total economy."

EconomPic Data with an interesting post:

"We're All Socialist Now...( NOT QUITE )

Reported GDP would have been much worse had the government (Federal and State) not stepped in with spending and balance sheet. Per the BEA release:

Real federal government consumption expenditures and gross investment increased 13.8 percent in the third quarter, compared with an increase of 6.6 percent in the second. National defense increased 18.0 percent, compared with an increase of 7.3 percent. Nondefense increased 5.1 percent, compared with an increase of 5.0 percent. Real state and local government consumption expenditures and gross investment increased 1.3 percent, compared with an increase of 2.5 percent.

And this was only through Q3, before trillions of dollars in guarantees and cash were put into the system. As can be seen below, government spending at both the Federal and State level has continued its steady climb over the past 8 years.



Get ready for a spike. How large will it be? Well, according to the UPI:

With government spending accelerating with financial bailout funds and a possible economic stimulus package on the way, government's share of the economy is projected to exceed 25 percent of the nation's $14.4 trillion economy in 2009, USA Today reported Thursday.

The previous record in the post-World War II era was 23.5 percent, set in 1983. In 1943 and 1944, government spending hit 44 percent of the total economy.

Source: BEA"

I'm glad that they reported the WW II numbers. Again, a Socialist State would control all the means of production, as I understand it. We have a Welfare State in which, for the time being, government spending is growing. So far, that's it. I fear Social Stress more than Socialism.

"Japan’s exports plunged the most on record in November "

Bloomberg with some ugly numbers from Japan:

"By Toru Fujioka

Dec. 22 (Bloomberg) -- Japan’s exports plunged the most on record in November as global demand for cars and electronics collapsed, signaling more factory shutdowns and job cuts are likely as the recession deepens.

Exports fell 26.7 percent from a year earlier, the Finance Ministry said today in Tokyo. Economists surveyed by Bloomberg News predicted a 22.3 percent decline. The drop was the sharpest since comparable data were made available in 1980.

The Bank of Japan lowered its benchmark interest rate to 0.1 percent last week after business sentiment dropped the most since 1975 and the yen surged to a 13-year high against the dollar. Honda Motor Co. said last week that it may shift manufacturing overseas if the currency strengthens further( INTERESTING. WHERE? ).

“Japan’s export crash is finally upon us, and this is the worst thing that could happen,” said Yoshiki Shinke, a senior economist at Dai-Ichi Life Research Institute in Tokyo. “The recession will be very severe as companies adjust investment, production and labor.”

The yen traded at 89.70 per dollar as of 9:35 a.m. in Tokyo from 89.50 before the report was published and 87.14 on Dec. 17, the strongest since 1995. The Nikkei 225 Stock Average edged 0.6 percent higher after the U.S. government agreed to provide General Motors Corp. and Chrysler LLC with emergency loans.

Gross domestic product shrank in the past two quarters, sending the world’s second-largest economy into the first recession since 2001. The government last week forecast zero growth for the year starting April 1.

Toyota, Sony

Honda, Toyota Motor Corp. and Sony Corp. are among the companies that are shedding thousands of workers and closing production lines as profits dwindle. Car exports slid 32 percent last month, the most ever, and semiconductors slumped 29 percent, the ministry said.

Today’s report showed the global recession is spreading to the emerging markets that propped up exports earlier this year as demand from the U.S. and Europe evaporated. Exports to Asia fell 27 percent, the most since 1986, after the first decline in six years in October. Shipments to China, Japan’s largest trading partner, fell 25 percent, the steepest drop in 13 years.

“There are no markets that can make up for the drop in demand for Japanese-made goods,” Dai-Ichi Life’s Shinke said.

Exports to the U.S. tumbled a record 34 percent, and those to Europe slid 31 percent, the second-most ever.

Imports fell 14.4 percent, the first decline in 14 months, as oil costs eased and the yen gained. That wasn’t enough to prevent a trade deficit of 223.4 billion yen (2.5 billion), the third shortfall in four months.

Yen’s Damage

The yen strengthened 25 percent against the dollar this year as the global financial crisis prompted investors to sell riskier assets purchased with money borrowed in the currency( THAT'S THE CAUSE. THE FLIGHT TO SAFETY AGAIN ).

Honda President Takeo Fukui last week said the government should take action to halt the yen’s rise. Every 1 yen gain against the dollar cuts Honda’s annual operating profit by 18 billion yen ($201 million), according to the automaker. About 90 percent of Honda’s revenue comes from overseas.

Companies are also struggling to obtain funding as the market turmoil dissuades investors from buying corporate debt( THE SAME AS HERE ). To help businesses get financing, the Bank of Japan last week decided to buy commercial paper for the first time( SOUND FAMILIAR ).

Sales at home are unlikely to make up for the collapse in demand from abroad. Households, whose confidence is at a record low, pared spending in each of the eight months to October as wage growth stagnated and job prospects worsened.( JAPAN IS A SAVER COUNTRY )

The Finance Ministry last week submitted an extra budget for the year ending March that includes 2 trillion yen in cash handouts for households as Prime Minister Taro Aso tries to spur spending. That may be too little, too late, economists say.

“Japan’s economy has never weaned itself off of the overbearing reliance on exports, and especially to the U.S.,” said Kirby Daley, senior strategist and head of capital introductions at Newedge Group. “Japan did nothing to prepare itself” for the collapse in demand from abroad( SOUND FAMILIAR ? ).

No wonder there's a global recession. There's no learning curve anywhere. I wonder what Asano is saying now?

"we'll have no choice but to go on a "saving spree."

I know that this is being predicted, but I'll believe it when I see it. Henry Blodget on Clusterstock:

"Welcome To New Era: Scrimp And Save

Henry Blodget | Dec 20, 08 11:08 AM

Hoping for a quick return to the consumer spending habits of past quarter-century, when "financial discipline" meant remembering to withdraw enough home equity to get a new SUV every two years? Forget about it, says Gary Shilling. ( I DON'T AGREE )

We are indeed going to return to the past, but it's going to be the enforced frugality of the 1930s and 1940s, not the debt fueled orgy of the past couple of decades. ( NO WAY )

As the charts below show, in the last 25 years, our total consumer debt load has ballooned from about 50% of GDP to almost 100% (FT). We've also raided our home-equity piggy banks, pulling out an increasing amount each year until house prices collapsed (Gary Shilling). At the same time, our savings rate has dropped from more than 10% of disposable income to zero. ( AND? )

Over the next several years, Gary says, these trends will continue to reverse, placing enormous pressure on consumer spending. Unable to borrow anymore and seeking to replenish our demolished retirement accounts, we'll have no choice but to go on a "saving spree." ( WE WILL SAVE MORE. BUT A "SPREE" WOULD SURPRISE ME )

And this is not good news for the thousands of companies--domestic and international--that got fat and happy over the past two decades selling us things. ( THAT DEPENDS )

See our interview with Gary on TechTicker here:

"conversion, whereby, for example, all existing mortgage debts could be wholly or partly converted into long-term, low and fixed-interest loans"

Niall Ferguson on FT talks about Leviticus:

"In the Old Testament Book of Leviticus, God commands the children of Israel to observe a jubilee every 50 years. Nowadays we tend to associate the word with celebrations of royal anniversaries such as Queen Elizabeth’s golden jubilee in 2002. But the biblical conception of a jubilee was more precise: that of a general cancellation of debts.

This point is spelt out in Deuteronomy: “Every creditor that lendeth ought unto his neighbour shall release it; he shall not exact it of his neighbour, or of his brother; because it is called the Lord’s release.” ( I BELIEVE THAT THIS WAS ALSO TO ENSURE THE LAND REMAINED IN THE POSSESSION OF EACH TRIBE )

Such injunctions may strike the modern reader as utopian. How could any sophisticated society function if all debts were cancelled twice a century – much less, as Deuteronomy seems to suggest, every seven years? Yet we know that such general cancellations of debt really did happen in the ancient world. In 1788 BC, for example, about 500 years before the time of Moses, King Rim-Sin of Ur issued a royal edict declaring all loans null and void, wiping out some of history’s earliest known moneylenders. ( WHY NOT HAVE SAVER NATIONS LIKE CHINA AND GERMANY CANCEL DEBT, AND THEN THE SPENDER NATIONS CAN START SPENDING AGAIN AND EVERYONE IS HAPPY AND DOING WHAT COMES NATURALLY TO THEM? )

The idea of a generalised debt cancellation is not wholly unknown in modern times. The late Gerald Feldman, the world’s leading authority on the German hyperinflation of 1923, drew a parallel between the ancient Hebrew yovel and the wiping out of all paper mark-denominated debts as a result of the collapse of the German currency (though, as he was quick to point out, those whose savings were wiped out were far from jubilant).

In the hope of avoiding the mark’s meltdown, the economist John Maynard Keynes had repeatedly called for a general cancellation of the war debts and reparations arising from the first world war. Though no such intergovernmental jubilee was ever proclaimed, debt cancellation was effectively what happened after 1931, beginning with President Herbert Hoover’s one-year moratorium on both war debts and reparations.

As 2008 draws to a close, there are many people on both sides of the Atlantic who yearn for such a simple solution to the problem of excessive indebtedness. Parallels with the interwar period are not inappropriate. It is all but inevitable that we shall see serious political and geopolitical upheavals in 2009, as the recession takes its toll on weak governments (Thailand and Greece are already reeling) and raises the stakes in inter-state rivalries (India-Pakistan). In the words of Hank Paulson, the US Treasury secretary: “We are dealing with a historic situation that happens once or twice in 100 years.” The stakes are high indeed. Has the time arrived for a once-in-50-years biblical jubilee?

Excessive debt is the key to this crisis ( BUT WHAT CAUSED IT? ); it is the reason we are confronting no ordinary recession, curable by a simple downward adjustment of interest rates. It is the reason we still have to fear, if not a second Great Depression, then very likely the biggest recession since the 1930s. We are living through the painful end of an age of leverage which saw total private and public debt in the US rise from about 155 per cent of gross domestic product in the early 1980s to something like 342 per cent by the middle of this year.

With average household debt rising from about 75 per cent of annual disposable income in 1990 to very nearly 130 per cent on the eve of the crisis, a large proportion of American families are submerging under the weight of their accumulated borrowings. British households are in even worse shape.

Looking back, we now see just how big a proportion of US growth since 2001 was financed by mortgage equity withdrawals. Without that as a means of financing consumption, the economy would barely have grown at 1 per cent a year under President George W. Bush. Looking forward, we see just how hard it will be to stabilise property prices and the prices of the securities based on them. Already, at the end of September, one in 10 American home owners with a mortgage was either at least a month in arrears or in foreclosure. One in five mortgages exceeds the value of the home it was used to purchase.

The financial sector’s debts grew even faster as banks sought to bolster their returns on equity by “levering up” ( THIS IS TRUE ). According to one recent estimate, the total leverage ratios (on- and off-book assets and exposure divided by tangible equity) for the two biggest US banks were 88:1 for Citibank and 134:1 for Bank of America. The bursting of the property bubble caused such ratios, which were already too high on the eve of the crisis, to explode as off-balance-sheet commitments and pre-arranged credit lines came home to roost. Only by borrowing from the Federal Reserve on an unprecedented scale have the banks been able to stay in business( THE BANKS CONSIDER IT INSURANCE AND WERE COUNTING ON IT ).

With estimates of total losses on risky assets now ranging from $2,800bn (£1,850bn, €1,960bn) to $6,000bn, a chain reaction is under way that will leave no sector of the world economy untouched. The American economy is contracting at an annualised rate of 5 per cent ( WE NEED TO WAIT ON THAT ). Commercial property is following the residential market into freefall. The Standard & Poor’s 500 index is down 43 per cent since its peak in October last year. The market for credit default swaps is pointing to a surge in defaults on corporate bonds( I BELIEVE THIS IS OVERDONE ). The automotive industry is already (against the will of Congress and the original intention of the Treasury) on life support. The US is at the centre of the crisis but Europe and Japan may suffer even larger aftershocks. As for the much feted emerging market “Brics” – Brazil, Russia, India and China – their stock markets have been dropping like, well, bricks.

What makes this crisis of burning interest to financial historians is the knowledge that we are witnessing a real-time experiment with not one but two theories( THEY'RE NOT MUCH HELP ) about the Depression.

On one side, Ben Bernanke, Fed chairman, is applying the lesson of Milton Friedman’s and Anna Schwartz’s A Monetary History of the United States, which argued that the Depression was in large measure the fault of the central bank for failing to inject liquidity into an imploding financial system. Mr Bernanke has not merely slashed the federal funds rate to below 0.25 per cent. He has lent freely to the banks against undisclosed but probably toxic collateral. Now he is buying securities in the open market. ( HE'S DOING WHAT LOOKS LIKE THE LEAST AWFUL ALTERNATIVE )

The result has been an explosion of the Fed’s balance sheet and of the monetary base. With assets approaching $2,263bn and capital of less than $40bn, the Fed increasingly resembles a public hedge fund, leveraged at more than 50:1. ( THE ASSETS OF THE AMERICAN PEOPLE BACK THIS )

On the other side, Mr Paulson has emerged as an unwitting disciple of Keynes, running a huge government deficit in an effort not merely to bail out the financial sector but also to provide a public sector substitute for sharply falling private sector consumption. Even before President-elect Barack Obama launches his promised infrastructure investment programme, estimates of next year’s deficit run as high as 12.5 per cent.

Once, monetarism and Keynesianism were considered mutually exclusive economic theories. So severe is this crisis that governments all over the world are trying both simultaneously ( THAT'S BECAUSE WE'RE NOT SURE WHAT TO DO ).

Although commentators like to draw parallels with Franklin Roosevelt’s New Deal, in truth the measures taken since the crisis began in August 2007 more closely resemble those taken during the world wars ( AND? ). After 1914, and again after 1939, there was massive government intervention in the financial system. Banks and bond markets were reduced to mere channels for the financing of huge public sector deficits. That is what is happening today, but without the stimulus to manufacturing that the world wars provided. We are having war finance without the war itself.( THANK GOD )

Yet the effect of these policies is essentially to add a new layer of public debt to the existing debt mountain. Added together, the loans, investments and guarantees made by the Fed and the Treasury in the past year total about $7,800bn, compared with a pre-crisis federal debt of about $10,000bn. The Treasury may have to issue as much as $2,200bn in new debt in the coming year. ( IT'S A PROBLEM, BUT NOT INSURMOUNTABLE )

For the time being, the distress-driven demand for dollars and risk-free assets is pushing down the cost of all this borrowing. Treasury yields are at historic lows. But it is not without significance that the cost of insuring against a US government default has risen 25-fold in little over a year ( THIS MIGHT WELL BE OVERDONE ). At some point ( WHAT POINT? ), with most big economies adopting the same fiscal policy, global bond markets are going to start choking.

Is it really plausible that the cure for excessive leverage in the private sector is excessive leverage in the public sector ( YES IT IS. IT'S PARADOXICAL, BUT MUCH OF LIFE IS ) Might there not be a simpler way forward? When economists talk about “deleveraging” they usually have in mind a rather slow process whereby companies and households increase their savings in order to pay off debt. But the paradox of thrift means that a concerted effort along these lines will drive an economy such as that of the US deeper into recession, raising debt-to-income ratios.

The alternative must surely be a more radical reduction of debt. Historically, such reductions have been done in one of four ways:( 1 ) outright default,( 2 ) restructuring (for instance, bankruptcy), ( 3 )inflation or ( 4 ) conversion. At the moment, more and more American households are choosing the first as a way of dealing with the problem of negative equity, while more and more companies are being driven towards bankruptcy. But mass foreclosures and bankruptcies are not a pretty prospect.( BUT THEY MIGHT HELP )

Inflation, by contrast, is hard to worry about in the short term, not least because the Fed’s expansion of the monetary base is leading to no commensurate expansion of the broad money supply; the banks would rather shrink than expand their balance sheets.( SO WHY NOT USE IT? )

That leaves conversion, whereby, for example, all existing mortgage debts could be wholly or partly converted into long-term, low and fixed-interest loans, as recently suggested by Harvard’s Martin Feldstein. (In his scheme, the government would offer any homeowner with a mortgage the option to replace 20 per cent of the mortgage with a low-interest loan from the government, subject to a maximum of $80,000. The annual interest rate could be as low as 2 per cent and the loan would be amortised over 30 years ( THEY DO HAVE TO PAY THE MONEY BACK ).

At the very least, this would rescue many homeowners from the nightmare of negative equity. A similar operation might also be contemplated for the debts of those banks that have been partially or wholly recapitalised by the state. This would not add to the federal debt in net terms and would reduce the interest burden, if not the absolute debt burden, of households.

Such radical steps would naturally represent a haircut for creditors ( FINE WITH ME, SINCE THE HOUSES THEY WOULD FORECLOSE ON WOULD BE WORTH LESS ), notably the holders of mortgage-backed securities and bank bonds. Yet they would surely be preferable to the alternatives ( NOT IF THEY FEEL THAT THEY CAN GET A BETTER DEAL FROM THE GOVERNMENT. ALSO, ARE YOU GOING TO MANDATE THIS? ). And they would certainly be a less extreme solution than the general debt cancellation envisaged in the Old Testament.

Financially, 2008 has been an annus horribilis. The answer may be to make 2009 a true jubilee year.

To be honest, I don't think he made a case for any of the four alternatives. It's an interesting plan, but it is dubious that it can be made to work in practice, due to a number of factors leaving lenders and borrowers to prefer other alternatives.

How fallow years led to a golden jubilee

Every seven years, God told Moses, the children of Israel should neither sow their fields nor prune their vineyards – a kind of self-imposed recession. After seven such sabbatical years, the trumpet of jubilee should be sounded: “And ye shall hallow the fiftieth year, and proclaim liberty throughout all the land unto all the inhabitants thereof: it shall be a jubilee unto you; and ye shall return every man unto his possession.”

Land that had been sold was to be redeemed or returned to the original seller and the poor were to be relieved: “If thy brother be waxen poor, and hath sold away some of his possession, and if any of his kin come to redeem it, then shall he redeem that which his brother sold ... If thy brother be waxen poor ... then shalt thou relieve him: yea, though he be a stranger ... Take thou no usury of him ...” In addition, Jews who were slaves were to be set free.

To modern eyes, however, the most striking of these divine injunctions was that debts were to be cancelled as part of “the Lord’s release”.

"people are not going to rush to borrow to buy such big-ticket, long-lasting items anytime soon."

Sudden Debt with an interesting post about where we've been and where we might be going:

"Two of the largest sectors of the US economy are housing and automobiles. Both are reeling (see charts below).

Looking at the charts, we observe that both industries had been on a more or less continuous uptrend since 1990-92 - until they jumped off the cliff in 2007. What happened? It's quite simple, really: houses and autos are the #1 and #2 most significant purchases people make in their lifetimes, usually financing both ( TRUE ). That's where easy-easier-easiest credit came in: in just a few years household debt as a percentage of GDP jumped from 67% to nearly 100% (see chart below).
In other words, between 2000 and 2007 we over-borrowed and over-spent on houses and cars, satisfying future demand for many years to come. No matter how low the Fed takes its rates (a record low 0.0% - 0.25% as of yesterday), people are not going to rush to borrow to buy such big-ticket, long-lasting items anytime soon. They do not need them, because they've already bought them. It follows that household lending - the driving force behind finance in recent years - is also going to be down on its heels for many years ( TRUE ).

Conclusion: don't go bottom-fishing in these sectors just yet ( YOU CAN BUY INDIVIDUAL STOCKS IF YOU CAN DO THE RESEARCH ). Instead, investors will be better off looking for The Next Big Thing. What's that? My bet is on alternative energy and everything that revolves around it, such as smart electricity grids. A wholesale shift from "black" to "green" will necessarily require massive investment and will, also necessarily, lead to a shift from consumption to saving, in order to finance it( IT'S A VERY WIDE AREA, BUT THE GENERAL POINT SEEMS RIGHT ). This will pose significant challenges to the retail and traditional services sectors, too.

I fully expect a long period of massive Creative Destruction to unfold, i.e. OPPORTUNITY. ( I AGREE WITH THIS, AS DOES JIM GRANT )Any and all ideas from readers are welcome.."

One added point. I've said that houses are an investment, so that, theoretically, the money that had been used for buying houses would now be spent on other things. As well, it is important to remember that for the people who remain in their houses after buying in recent years, the house is still an investment which generally pays off better than renting. As for autos, that money should also go towards other purchases. I'm not savvy enough to know where that money is going to go. This is a version of Ricardian Equivalence.

"As I've been boring you rigid with for months and months now, the cause of our economic woes is that we borrowed too much "

Robert Peston on BBC about the choice, if we have one, between Inflation and Deflation:

"The US Federal Reserve and the Bank of England regard the great threat right now as deflation. ( AS DO I )

If they're right, deflation would be a disaster for our economies, for the reason set out in typically elegant fashion this morning by Martin Wolf in the Financial Times. ( ALREADY BLOGGED ABOUT )

As I've been boring you rigid with for months and months now, the cause of our economic woes is that we borrowed too much - or financial institutions lent us too much (to digress for a second: there's a resonant unresolved issue of accountability and responsibility in these two ways of seeing the debt binge). ( DR.JOHNSON BLAMES BOTH THE BORROWER AND LENDER )

The sum of consumer and corporate borrowing in the UK is equivalent to something like 240% of our annual economic output in the UK, while US household and business debt is closer to 300% of that country's GDP. In cash money, that's about $45,000bn - or one of those big numbers that induces vertigo. ( OR INCOMPREHENSION )

Which is quite a burden, and - as far as I can tell - a record-breaking mountain of debt for us to pay off. ( NOT IN TERMS OF PERCENTAGES, I BELIEVE )

The alarming and important point is that if deflation were to set in, if prices were to fall, the real burden of that debt would increase - thus prolonging and exacerbating the severe recessions that appear to be taking hold in both the US and the UK. ( VERY TRUE )

That's why the US Federal Reserve has set its policy interest rate as so close to bupkes or zero as makes no difference. ( OR NIL, NAUGHT, NADA, NOTHING,NULL )

But, of course, the interest rates that businesses and consumers actually pay is much higher. So the Fed has embarked on a mission to bring the interest rates that participants in the real economy pay to as close to zero as it possibly can.

The Fed is doing this by spending hundreds of billions of dollars buying up US government debt and also loans to companies and householders - which has the effect of forcing down yields or interest rates.

By the time the US central bank is finished, it will have pumped trillions of dollars into the US economy in this way.

Over here, the Bank of England is preparing to do something similar, for the moment when its Bank Rate falls to nil (which may never come - but it would be foolish of the Bank of England to assume the zero hour will not arrive).

This process has the ghastly name of "quantitative easing" ( OR PRINTING MONEY, OR DEBASING THE COINAGE ). And it's not dissimilar to running the money printing presses at quadruple speed, filling up choppers with cash and then showering the population with greenbacks. ( THE HELICOPTER CLUB )

It's supposed to encourage ( IT WILL ENCOURAGE THEM. WHETHER THEY DO IT OR NOT IS ANOTHER QUESTION ) businesses and consumers to spend rather than save, so that economic activity revives.

And it exposes the shocking paradox( BRAVO! IT IS A PARADOX! ) of our age: debt got us into this mess, but paying down that debt too quickly will only make the mess worse (or so the Federal Reserve and Bank of England believe - though I should point out that a growing number of economists are beginning to express fears ( WE ALL HAVE THEM ) that what the central banks are doing will prolong and exacerbate the crisis).

What is profoundly unsettling to central banks and governments is that growing numbers of businesses and consumers are opting to save rather than spend even as interest rates fall to these record lows.

Which is why those central banks and governments are taking ever more desperate steps to stimulate growth through increases in public spending and to make money as cheap as possible.

And that of course raises the question ( IS IT A PHILOSOPHICAL QUESTION? ) about whether the worst threat we currently face is deflation or inflation.

At the moment our economies turn, there's a genuine risk( TRUE ) that central banks won't be able to drain all this cheap money from the system quickly enough to avert quite a surge in the inflation rate.

Against that background, I conducted an unscientific poll of leaders of some of our biggest multinational businesses at a lunch( THE BASTARD WOULDN'T EVEN ALLOW US TO HAVE A BLOODY MEAL IN PEACE. HE EVEN POLLED ME IN THE LOO ) a few days ago.

I asked them to think about 2010, and whether they were planning for that to be a year of deflation or inflation.

To a man (this isn't me being sexist, it's that world: they were all men), they said they expected a sharp rise in the inflation rate ( I AGREE. PASS THE CONDIMENTS TRAY PLEASE ).

They said this in a resigned way, as though it was the bill for a party that had been far too expensive and had gone on far too long ( MAYBE THEY'D JUST SEEN THE LUNCH BILL. PESTON HAD SURF AND TURF ).

UPDATE, 09:44 AM:

The Bank of England's monthly agents' survey of business conditions contains disturbing evidence of businesses turning down profitable orders because they're unable to obtain either loans from banks to finance the increase in working capital or insurance from specialist insurers to cover the risk of non payment. ( BLOODY HELL THAT'S DISTURBING )

There's also an alarming trend of businesses conserving cash and deferring or cancelling capital expenditure." ( I'M ALARMED BY THE TIME. NEVER BOTHER ME UNTIL AFTER TEN )

"We will see what 2009 will bring, but my characterization of 2008 is largely based on data."

So many people are adversely effected by this situation, and it has the potential, if not handled and responded to correctly, to spiral downward into a very deep and lasting problem, so that I do call it a crisis. But, in general, I see things as Casey Mulligan does, although not for the same reasons:

"Professor Black claims that “Rome is burning,” which I take to mean that we are in the midst of an economic disaster, and claims that I ignore it because of a theoretical bias.

2008 has been a disaster for Wall Street. A couple of years of steeply rising oil prices has been bad for the automobile industry, and a disaster for the makers of gas guzzlers — namely, GM, Chrysler, and Ford. However, I admit — proclaim — that I do not see 2008 as an economic disaster for the average American. We will see what 2009 will bring, but my characterization of 2008 is largely based on data. ( THIS NEEDS TO BE INTERPRETED, BUT, IN MY CASE, I'LL ADMIT TO A BIAS, I THINK IT'S A FAIRLY CLEAR PICTURE )

First let’s look at the employment data through November. Employment is down about 2 million, which undoubtably creates stress for a couple of million families. But is that a disaster? Robert Hall and Susan Woodward have a chart comparing the employment dynamics today to the 1982 recession, and find that, in percentage terms, employment declined more rapidly in 1982.

By 1982 Q1, productivity had fallen 3 of 4 quarters for a cumulative decline of 2.3 percent. Through 2008 Q3, productivity had risen six consecutive quarters, with an increase of 2.1 percent over the past four. It is very likely that the U.S. will have the most real GDP per capita in its history in 2008, despite the fact that the entire year will be spent in recession (by the employment definition). [1]

Even the more gloomy forecasts for the next year do not portend disaster. At quarterly rates, GDP growth, Goldman Sachs says, will fall 5/4 percent, 3/4 percent, and 1/4 percent from 2008Q3-Q4, 2008Q4-2009Q1, and 2009Q2. That’s a cumulative decline of 2.3 percent 2008Q3 - 2009Q2, or $200 billion, or about $700 per person. Is that a disaster?

Note

[1] Through Q3, 2008 GDP was $8,771 billion (seasonally adjusted by the BEA). 2008 population (July) was 303,824,640, so 2008 produced $28,870 per person already through Q3. That means only $9,338 per capita ($2,837 billion in aggregate) needs to be produced in Q4 to break the 2007 record. In other words, if Q4 is within 3 percent of Q3, we break the record. Even the most pessimistic forecasters admit that Q4 real GDP will be greater than that."

For some people $700 is a disaster, but that should be handled by the money we spend on helping people out during this recession. I'm with Mulligan because I see the economy as being in much better shape than in the past to deal with a crisis such as this ( I don't separate the economy from the general existential situation of the time ), and, I know this isn't everyone's view, I see this as a downward version of our upward bubble. The debt is troubling, but not insurmountable.

I predicate my position on a fairly effective government response to this crisis, and that's my bottom line for optimism. Since I believe that Implicit and Explicit Government Guarantees were being counted on, and counted on to be effective, then the crisis will abate when those guarantees are seen to be guaranteed, and there's a feeling that the government is competent. Don't expect any big changes until President Obama is sworn in.