The US economy

[sandid]

This Reuters story covers most of Friday’s economic news:
Jobless rate drops to 4-1/2 year low

The jobless rate and the payroll numbers do come from different surveys. Although I don’t trust surveys and the payroll numbers can be revised heavily, I think there’s enough evidence to show significant job growth.

The weekly initial jobless claims are another good, non-survey indicator. They’re below 300k. Historically, 400k/week is the level where the jobless rate stays constant.

The stockmarket sold off because the news was too good. Taken together, this week’s data make 5% interest rates much more likely.

(Incidentally, ECRI’s weekly GDP growth indicator increased again and their monthly inflation indicator up to Jan. is still on a rising trend).

[ikitov]

agree. The CES has a better accuracy as published in

http://www.bls.gov/web/ces_cps_trends.pdf

The correct statement is:
"Comparison by: Payroll Survey (CES)
Size of over-the-month change in employment required for a statistically
significant movement +-99,000"

So to say any change below 100000 between months is insignificant.

As to the CPS - the figure is +-496000. 0.3% change in unemployment gives: 150,000,000x0.003=450000, i.e. again insignificant.

[sandid]

The US retail sales for Jan. have attracted a lot of attention –
[url=http://www.marketwatch.com/News/Story/Story.aspx?guid=%7BBD538A68%2D3C86%2D4184%2D974F%2DB3D9C0113033%7D&dist=rss&siteid=mktw]U.S. Jan. retail sales climb 2.3%
Excluding automobiles, retail sales rise 2.2%[/url]

Here’s the monthly change in retail sales, but averaged over three months:



The ex-autos picture shows how retail sales started to fall in 2000 – a leading indicator of the mini-recession in 2001. But since mid 2003 things have been humming along quite nicely.

BTW, the remarkable thing about the all-items graph (red) is the huge spike in October 2001. Following 9/11, spending stopped and Pres. Bush came out with his ‘spend for America or the terrorists will win’ message. Americans fought back by buying thousands of SUVs on credit.

We’ll see what Mr. B. has to say about spending later today.

[sandid]

Well, Mr. B. came and went to general applause.

Now let's just to take a look at the CPI inflation data out this week –



‘All items’ annual inflation up to Jan. was 4.0% but ‘core’ annual inflation – all items less food and energy – was only 2.1%.

The Fed is supposed to pay more attention to the core rate. In the past the all-items rate has oscillated around the core rate. But the all-items rate hasn’t been below the core rate since October 2002.

If Mervyn said “OK, everything really costs 4% more than last year but, hey, this core stuff is only up a bit over 2%”, would you be impressed?

2002 was the year the dollar started to fall in value. Maybe that’s a factor. But it doesn’t look as though all-items inflation is on the way down just yet.

[David Smith]

There's clearly more tightening to come in the US but don't forget that Mervyn did more or less say this in December 2004 when RPI inflation was 3.5% but the CPI had it well below 2%.

[ikitov]

It is very interesting to discuss inlfation as unpredictable process. There is no miracle with inflation, however. If one plots current weighted labor force change rate against inflation in two yeras s/he easily finds that they are coincide. As demonstrated in figures below. Hence, we exactly know what will happen in two years from now, if measure labor force with an appropriate accuracy.


Comparison of 7-year moving window averages for the predicted and measured inflation. The prediction is made according to the relationship INF=4*(dLF/LF)-0.03. The predicted curve is shifted by 2.5 years ahead in time in order to fit the peak value near 1978.


Comparison of the cumulative values of the observed and predicted inflation presented above. The predicted curve starts from 1963 and is shifted by 2.5 years ahead. An agreement is observed with a notable change from a concave portion before 1980 to a convex one after 1980. In the long run, one can expect a decreasing labor force change rate and corresponding low inflation rate

[sandid]

There's clearly more tightening to come in the US but don't forget that Mervyn did more or less say this in December 2004 when RPI inflation was 3.5% but the CPI had it well below 2%.

...and we weren't impressed with CPI as a target. (RPI had been affected by the five rate rises but RPIX was 2.5%).

Hence, we exactly know what will happen in two years from now, if measure labor force with an appropriate accuracy.

Seven years is a bit of a long filter, Ivan. But there's a whole industry devoted to this sort of prediction. Have you tried selling your ideas to ECRI or the Conference Board?

[ikitov]

Sandid,
There are systematic and random errors in both inflation and labor force readings. Systematic error is easily removed by varying the constant in the relationship displayed in the figures. Random error in the series is supposed to have a zero mean value. So , when you are smoothing the noise you have to chose an appropriate filter. In my case this is 7 years. The uncorrelated noise is effectively eliminated from the smoothed values. It can be even better seen in the cumulative value. There are almost no deviations between the predicted and observed values. For the sake of completeness I also add a picture for dynamic behavior below. The data are prone to measurement errors, as I said above. The difference is lower, however, than the difference between readings obtained by different methods (for example Fisher, Paasche, Laspeyres CPI) and sources, as you can find in my paper at my web-site.
I have submitted the papers to some conferences and journals. I am a professional scientist and know only this way of doing. Despite the weakness related to money earning, scientific approach gives you a reward of objectivity. Whatever happens to the CB or any other analytical group, these findings will hold. What I have done, is just a comparison of two data series measured in a partially controllable way, i.e. no theoretical or other king subjectivity. everybody can repeat and obtain the same results. As in any strict science.



The observed inflation (GDP deflator) and the predicted from the labor force change rate (shifted 2.5 years ahead). An agreement is observed throughout the whole period with just some short fluctuations in labor force potentially induced by the population corrections implemented by the Census Bureau in the census years.

[David Smith]

Ivan My gentle advice to you is that you try to find an economics collaborator. However good your science, and I'm sure it is, no economic relationships are as certain as you suggest. The best-fitted equations and the best-specified models have made fools of people on many occasions. The unforeseen happens, and relationships change.

[ikitov]

David, I am afraid of economic collaborators. They are trying to interpret everything in the own "bird" language, as I call that in Russian. I do not like this approach and treat it as a wrong one and leading to a dead-end. IN my view, objective data and relationships (like gravity law) do not need personal recognition of some "prestigious" economists like, Prescott whom I cited above in the discussion.
This inflation-labor force relationship exists for forty years of more or less accurate measurements. Other countries I have studied are characterized by the same linear relationships as well. For example, Japan, which is even better described (I do not insert corresponding figure, but you can find the paper on my web-site). So, I do not see any need to think that "economic" interpretation of these relationships will help somehow to my study.
For the gravity low, it was found recently that the gravity constant changes with time. So, any fundamental physical law is potentially prone to changes. Such changes may be quick (bifurcation) or long (evolution). Economics is not an exclusion from the rule. I do link the observed economic relationships to socioeconomic structure of developed societies. My guess is that the relationship can evolve with the evolution of the societies. Moreover, I have just found that for European Union these effects are actually observed: the linear relationships started to deviate from their long-term behavior in 1997-1999 due to new EMU rules, stability pact and so on.
For example, France has now a much lower inflation than predicted by the previous relationship but pays for that by very high unemployment. Austria is an opposite example. It has higher than predicted inflation and lower unemployment. These are just yesterdays finding of my new study. Hope it will be interesting for EU countries.

[sandid]

They're using our material - an article in today's N.Y. Times -

On Wall Street, the Inflation View Is Rosier Than It Is on Main Street
By FLOYD NORRIS Published: February 25, 2006
:
It is fun while it lasts.

[ikitov]

The best-fitted equations and the best-specified models have made fools of people on many occasions. The unforeseen happens, and relationships change.

I understand your point. Every economic textbook and all the economic experience obtained so far directly indicates the unpredictable behavior of developed economies. It has a very negative influence even on the top economists. There is a strong opinion that nobody can predict economic future similar to the decision of the French Academy do not consider any “perpetum mobile” models. As a matter of fact, nobody actually proved this assumption of unpredictability. It spread around as a religion not as science. (Again see Prescott’s statement). Economists do not trust their own eyes when see some simple explanation.
As I agreed with you on potential changes in the behavior of the relationships, I still want to stress that during forty years the labor force change was two years ahead of inflation and five years ahead of unemployment. If we were in 1980 and you expressed the same doubts about future evolution of the relationship, I would agree with you as well. But we would have now 25 years of observations and could discuss the observed behavior and how it “fooled” people. Unfortunately, I did not find that 25 years ago. At the same time, I do not see any reason the relationships will not work in the USA another 40 years as good as before. I can deny almost any reason by past experience. If it did not work in past why should it work now?
I am sure that you will not change your mind about these observations. I can only propose to verify and validate the relationships by future measurements as we do in strict science.
I also put below some more figures with two years predictions for the USA. Lets check. Maybe in 25 years we will agree on the existence of the relationships. The fourth figure uses the US Census Bureau population projections. One can evaluate potential risk of deflation in 2012. But before that a burst of inflation is expected during the next two-three years.




Comparison of the labor force and working age population change for the period between 1948 and 2004 and projection of the working age population change until 2040. Corrections for the “closure error” between the postcensal estimates and census enumerations are clear as steps and bursts in the otherwise smooth curve. The projected working age population growth rate will suffer a severe drop from the current value of 0.01 to a very low value of 0.003 in 2012 and an even lower value of 0.002 in 2020.

[sandid]

The FOMC press release in full:

Press Release
Release Date: March 28, 2006 For immediate release
http://www.federalreserve.gov/boarddocs ... efault.htm

The Federal Open Market Committee decided today to raise its target for the federal funds rate by 25 basis points to 4-3/4 percent.

The slowing of the growth of real GDP in the fourth quarter of 2005 seems largely to have reflected temporary or special factors. Economic growth has rebounded strongly in the current quarter but appears likely to moderate to a more sustainable pace. As yet, the run-up in the prices of energy and other commodities appears to have had only a modest effect on core inflation, ongoing productivity gains have helped to hold the growth of unit labor costs in check, and inflation expectations remain contained. Still, possible increases in resource utilization, in combination with the elevated prices of energy and other commodities, have the potential to add to inflation pressures.

The Committee judges that some further policy firming may be needed to keep the risks to the attainment of both sustainable economic growth and price stability roughly in balance. In any event, the Committee will respond to changes in economic prospects as needed to foster these objectives.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Susan S. Bies; Jack Guynn; Donald L. Kohn; Randall S. Kroszner; Jeffrey M. Lacker; Mark W. Olson; Sandra Pianalto; Kevin M. Warsh; and Janet L. Yellen.

In a related action, the Board of Governors approved a 25-basis-point increase in the discount rate to 5-3/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, Minneapolis, Dallas, and San Francisco.

Another rate rise looks likely at this stage – although there ‘may’ not be one. This is starting to have significant effects outside the US, with big drops in the Australian, New Zealand and some emerging market currencies. Some Middle East stockmarkets have already had large falls.

It looks as though large amounts of money are going to start shifting around the world after having been settled for a long time. There could be some serious casualties in bond markets, stockmarkets and currencies as this round of musical chairs gets going.

[sandid]

There was a lot of unhappiness in the US stockmarket yesterday after the US CPI figures for April were published. However, if you look at the annual figures rather than the monthly figures, things aren’t so bad.

All-items annual CPI inflation rose to 3.55% from 3.42% in March. That’s a lot higher than the UK’s 2.0%-2.6%. However, 3.55% is still less than the annual inflation figures for Jan. and Feb. this year and the 4.69% reached last September.

Core annual inflation did rise to 2.3% in April from 2.1% in March (the real cause of concern) but that’s still less than the level in March 2005.

And of course US interest rates have been steadily increasing. So all this tells us is that maybe there’ll be a need for another rate rise - but that’s not exactly going to make the sky fall.

Just for fun I’ve calculated “Real” US interest rates as the Fed Funds rate minus annual core CPI inflation. I’ve then compared the current recover from ‘recession’ in 2001 to the recovery from recession in 1991-1996:



We’re just about ‘balanced’.

[sandid]

It's just worth noting the dramatic change that's taken place in US CPI inflation following the recent fall in oil prices.

The all-items annual inflation rate fell below the core rate in Sept. but the annual all-items rate is now right down to 1.31% in October.

Meanwhile, the annual core rate fell a little from 2.93% in Sept. to 2.77% in Oct.

This is how the two measures compare. The two haven't crossed since November 2002:



Now, thinking in terms of interest rates - if we subract the latest annual core inflation rate from the latest Fed funds rate of 5.25%, then we have a rough measure of "real" US interest rates:



As you can see, the current real rate is not unusual.

Comparing the recent change in real rates to that which occured between 1991 and 1996 we can see a lot of similarilty:



If this means that the US economy is about to follow the path of the 1995-2000 period then that's jolly good news all round.