Brad DeLong's Semi-Daily Journal: A Weblog

And it's not like the long bond is telling them something different than the employment, inflation, or output statistics. In fact, it's drifting back towards 4% again (some drift admittedly due to the convention scaring the bond market investors out of town). It just seems to be that a Fed faction has some fixed number, below which interest rates are "too low."

Following a Taylor rule would certainly suggest raising rates less quickly now. But isn't the Fed below its Taylor rule? - It's still unwinding the extra stimulus that came from temporarily having a highly assymetric loss function.

greenspan believes that the second quarter was a fluke, and the healthier growth is about to resume. I can't say as i see why....

There seems to be a sense that normalization of interest rates is essential so that a further slowing of the economy or a shock can be readily met with a round of repeated interest rate lowerings. The long term bond market is telling us there is no need for the Fed to raise short term rates, but that is where we seem headed. The Fed may be looking to Japan and fearing having less policy movement available than it would care to.

Also, I am increasingly displeased with Alan Greenspan, for not supporting more stimulative fiscal policy and doing all he could to insure tax cuts that are to be increasingly at the expense of the middle class.

Notice as well that while inflation is benign, the inflation mix will be more of the problem for middle income and low income households. At the same time, Alan Greenspan wished to further adjust the cost of living increases for Social Security down.

Following up on Anne's point: A recent NPR report highlighted the effects of the inflation mix on households. How serious is this problem? And should it affect how we look at inflation? More importantly, how should the Fed respond?

Is it a real factor, mentioned here or somewhere recently, that the Fed needs rates a little higher in the case of a terrorist strike, so that they can react with ostensibly meaningful cuts to keep things stable?

Like father, like son. Bush 41 still blames Greenspan for his loss in '92. Maybe the Fed is putting their thumb on the scale a little thinking that deficits will be lower under a Kerry administration.

A major point in the Fed analysis is that funds are well below where a Taylor rule implies they ought to be. Consequently, raising rates to 3% is not a tightening in their analysis.

They believe they can do this without hurting the economy and need to remove this extra "accomodation" partially so they can have some bullets to shoot if they need to. A 1% funds they can not react to events.

I'm not saying this is right or wrong -- it is just their thinking.

Consider the prices of energy and food, and there is a sense that middle and low income households are bearing the costs of what is a low geneneral inflation rate. Consider that wage and benefit increases for middle and low income households are minimal and the problem is more serious. At least there should be no reduction of the cost of living increases for social benefit programs.

Berry, quoting Guynn: "At this point, it appears businesses are still inclined to squeeze the last ounce out of existing staff..."

Which they will always do if allowed and encouraged. We come full-circle a century after
Upton Sinclair wrote "The Jungle". Now, we have
wireless telephones...

The retail price of food *should* be coming down but hasn't yet. Commodity food prices and crude food goods prices have been plunging dramatically over the last three months. Whether retailers will be pressed to pass on the savings is, of course, an entirely different question.

Spencer said:
"A major point in the Fed analysis is that funds are well below where a Taylor rule implies they ought to be. Consequently, raising rates to 3% is not a tightening in their analysis."

Could spencer or some one else point me to where the Fed discusses their version of the Taylor rule and how they are applying it?

It seems to me that if the Fed's decisions are based on short term considerations (eg, we will need to look like we can do something stimulative in case there is a terrorist attack), it would be difficult to use a Taylor rule. If the current inflation is mainly cost-push from short run effects on Oil market, then there are too many feedbacks between interest rates, GDP growth and what is good strategy for OPEC to use a Taylor rule for decision making that is focused on the short term.

Notice by the way the price of milk and reflect on the strength of the dairy lobby in America.

Notice also that the prices paid by households with no ready access to chain supermakets are significantly higher.

Saying that "The unexpected jump in inflation earlier this year was the result of rapid growth that caused bottlenecks that sent some commodity prices soaring," is like saying "Dick Cheney is a man with no political ambitions." (NBC, 9/1)

Bowing an old saw to play My Darling Clementine.

School lunchs are going from $1.75 up to $2.25. That's a "bottleneck" inflation of 28% YOY, or *double* the rate of inflation under J. Carter.
But Bush/Cheney gets a pass. See, it's "oil".

I'm sorry, but there is so much bulls&*t coming out right now about the US economy, when any Joe Average can walk into the grocery store and come out with a $185 shopping cart, only half-full.

"Bad news on oil prices is bifurcating Fed prime alternatives," my ass. US retail prices jumped 5% across the board monthly. World airlines are going broke faster than the speed of sound. The world economies can't absorb this state of flux.

When GHWBush took office, the price of oil was <$15/bbl. Under Bush I's, and later Bush II's careful tutelage, ten years of carpet bombing, now the occupation of the 4th largest oil field on earth, oil prices have tripled to $45/bbl, more than twice the actual cost of production.

The same story goes for the US pharmaceuticals, which sell in this country for twice their value on world markets. US markets are *controlled*! The notion of a free marketplace is a fraud, or else Keynesian laws of supply and demand would rule, and the M3 money supply would head south, according to Friedman.

John Berry has written a fluff piece. Nobody has a clue what's about to happen to world economies due to the extreme commodity price dislocations.

So I'll leave you with this little ad hominem.

Last year our management instituted rules that would allow all worker tasks to be outsourced. The workers were told this wasn't a threat to their jobs, just giving management flexibility to outsource production as US economy recovered.

This year, management was told by the corporate office that, either production must increase at a lower unit cost, or else the entire work unit would be dissolved and production moved offshore.

The workers responded by calling in a union organizer. Our work unit already lost 12% of the workers bailing out early before the trainwreck. Now corporate's re-organize the entire division, forcing line managers to develop implementation plans to accomplish *twice* the production rate with the same, or fewer, workers than the 85% of staff we have remaining.

Or else, in 2005, all production goes overseas.

Get the picture, Berry?

I'd love to hear Brad comment on a recent article in the New York Times (cited by Krugman in one of his columns) that rising costs of health insurance are one of the factors making employers reluctant to hire. So maybe some of the employment is "classical" rather than "Keynesian". What does that say about the output gap?

http://www.gold-eagle.com/editorials_04/lerner071504.html

The US market is no longer responding to the Fed.

Rising Cost of Health Benefits Cited as Factor in Slump of Jobs
By EDUARDO PORTER - New York Times

August 19, 2004

A relentless rise in the cost of employee health insurance has become a significant factor in the employment slump, as the labor market adds only a trickle of new jobs each month despite nearly three years of uninterrupted economic growth.

Government data, industry surveys and interviews with employers big and small indicate that many businesses remain reluctant to hire full-time employees because health insurance, which now costs the nation's employers an average of about $3,000 a year for each worker, has become one of the fastest-growing costs for companies. Health premiums are sapping corporate balance sheets even more than the rising cost of energy.

In the second quarter, the cost of health benefits rose at a 12-month rate of 8.1 percent - more than three times the inflation rate and the rate of increases in wages and salaries.

Simple(ton?) philosophy:

If you have a chance to reload, reload dammit. You may not get another chance.

A recent article from the St Louis Fed picked 5.5% as a neutral Fed funds rate. (I don't write 'em, I just tell 'em.)

I understand the point Spencer is making about having some basis points in store so you can give them away, but from a straightforward economic point of view, it seems the wrong path. The Fed's now aging study of deflation in Japan concluded that accommodating early was the right medicine, that keeping basis point for some future need meant the economy would scamper out from under policy and there would then be a long, painful period of catching up. So if current tightening intentions are in any way based on the desire to have some basis points to spend, rather than a forthright assessment of what the economye needs, those intentions are contrary to the conclusions of the Fed's own research.

By the way, the headline ISM index put in its biggest decline so far this year in today's release, with the employment index at a level consistent with flat factory jobs. The ISM index has been cooling off since January, and joins the leading index and the ECRI index in pointing to slower growth in the second half of this year. GM and Ford both announced Q4 production plans well below prior Q4 levels, though Q3 output plans remain unchanged from a month earlier. Oh, and oil is up a buck or so on declining inventories, though that certainly may prove transitory.

Oops. Make that two bucks. The minute I turn my back....

The suggestion that a Federal Funds rate of 5.5% is neutral seems to simply be based of averaging the 1990s. But, labor market conditions are dreary and wages and benefit packages too constrained to cause much concern about inflation for quite some time. Though oil may well stay above 40 dollar a barrel, there is little reason to fear meaningful general inflation. Slowing the economy further than the slowing that seems to be occuring, makes little sense.

Consensus expectations of 2nd half growth have been revised down to just below 4%, but given the weakness in consumer real incomes and the emergence of what is apparently involuntary inventory accumulation in many different areas this seems way too high to me.

In the previous oil price spikes crude prices jumped some 160% to 165% ( that would be $52 oil
this time around) and preceeded recessions.
In each of these examples the oil price spike was just an additional factor tiping the economy in recession, but it seems to me that a forecast of growth at the potential rate of 4% over the next few quarters is ignoring too many negatives.

When interest rates go as low as they have been, it creates unintended effects other than the effect of stimulating investment. The US is also running a trade deficit and we need to keep interest rates high enough to attract foreign money. Raising the interest rates from 1% to 2% will make very little difference in investment, if the economy is growing. However, high inflation could wipe out the SS trust fund and other underfunded pension plans. Maybe the concern is not the ability to fight inflation but the need to minimize inflation for other reasons.

bakho says: When interest rates go as low as they have been, it creates unintended effects other than the effect of stimulating investment.

That's exactly right. There is a limit how much monetary policy can do -- just keep the rate very low could be counter-productive. Not long ago, many people on this board were worried about housing bubble -- isn't the insanely low fed funds rate a contributing factor to the super hot housing market? Keeping the rate at 1 percent for more than a year was a gross distortion of the market, which has led a lot of misallocation of resources as people were "chasing the yields". The sooner the FOMC correct this distortion, the better for the long-term health of the economy, I think.

Besides, assuming that the economy will grow about 3.2 to 3.8 percent next year, which is roughly the potential rate of growth, shouldn't the real fed funds rate be at most slightly accommodative, such as 1 percent (which would translate to a nominal fed funds rate of 3.5 percent if the headline CPI inflation remains at 2.5 percent), rather than the negative 1 percent (1.5 subtract overall CPI of 2.5) it currently is? By the way, Brad, your argument about the higher potential growth only suggests that the current policy is even more accommodative -- as higher potential growth ususally is associated with higher equilibrium real interest rate.

As Brad implied, the FOMC is going to have a hard time to deal with a negative supply shock, which they had the fortune not to have to deal with in most of the 1990s. While growth may have lowered a gear or two in recent months, both ISM survey and Philly survey suggest that price pressure is not abating on the manufacturing front.

Pat sort of beat me to it, but I was going to point out that slowly raising the interest rates might be designed to push a correction in the housing market before such a correction becomes cataclysmic.

Housing prices have risen nicely in many though not all areas over the last 5 years, but I do not know that there is a bubble. I also do not know that I want the Fed to adjust asset prices other than the prices of short term bonds. Long term residential and commercial real estate prices have moved roughly along with the S&P since 1970, why should we be worried. Many households have been well bouyed by the increasing values of homes. Also, I note that a similar real estate price increase can be found in England and has helped the economy florish while much of Europe sturggles with slow growth.

With the amount of spin he is spewing, sounds like Adrian Spidle served on the same Swift Boat as John O'Neill. Thanks for ruining the continuity of an intelligent economic discussion with innuendo and slander that had no relevant antecedent. Why don't you pack up your Supply Side Jesus worshipping idealogy and take it back to your own enlightened message board?

The US housing market has been clobbered by a poorly regulated savings and loan sector freezing up, and neighborhoods and whole regions of the country have suffered from collapses in housing prices, but it is tough to find a nationwide decline in home prices. The worst that usually happens over an extended period is a slow rise in prices. Those who see a bubble may have reason - the low cost of funds for housing has certainly pushed up prices - bust historically, it is real side stuff, like a lack of household income, and financial sector silliness like the S&L meltdown, that have been hardest on housing demand. Whether that is how Fed officials see it, I couldn't say.

Brad -- I don't like to take up as much space as that awfully important Mr. Spidle (!) but an email just came from that barking liberal watch-dog, Daily Misleader, with information about information which may fit in here. An excerpt:

"Last week, the Census Bureau released statistics showing that for the first time in years, poverty had increased for three straight years, while the
number of Americans without health care increased to a record level.[1] But instead of changing its economic and health care policies, the Bush administration today is announcing plans to change the way the statistics are compiled. The move is just the latest in a series of actions by the
White House to doctor or eliminate longstanding and nonpartisan economic data collection methods..."

From your liberal admirer who majored in two soft subjects at an elite school.

http://www.russell.com/us/search/searchResults.asp

Type in "single asset" when the Russell search page comes up and then open up "Single-Asset vs. Multi-Asset Portfolios." You will find a year by year performance record of a Real Estate Investment Trust Index from 1973-1974 through 1973. There are comparisons to the S&P and Small Cap Indexes and International Stock Indexes and Bond Index. Notice the stability and gains for the REIT Index.

The argument that the Fed needs to raise rates in order to have some points to work with if the economy goes into the tank is a good one. The Fed, although charged with a mighty task, has but a limited set of tools. Short term interest rates are the most important of these and there just isn't enough stimulative effect between 2.5% and 0% to make a difference.

The argument that the Fed needs to raise rates in order to have some points to work with if the economy goes into the tank is a good one. The Fed, although charged with a mighty task, has but a limited set of tools. Short term interest rates are the most important of these and there just isn't enough stimulative effect between 2.5% and 0% to make a difference.

If Berry is right and Greenspan pauses with his interest rate increases, we might think that his remarks about the strengthening economy were over-stated. We might think that the "soft patch" is something more.
Now, do we need more or less confidence heading into this election? A Greenspan pause will be good news for the Dems, no?

The interest rates are so accomodative now, another 25bp means zip in terms of consumer spending. After 2 increases in the prime, 30 yr mortgage rates have actually declined.
Maybe this means folks have given up on housing and are going to make the summer camping permanent. I don't think so.

kharris thinks the housing prices are secondary to the issues like " like a lack of household income, and financial sector silliness like the S&L meltdown," to the demand for housing. Recent reports about Fannie and Freddie qualify for the silliness. Current disposable household income has never been lower. The tiresome argument that housing market is local ignores the financial aspect which is quite national if not international. So IMHO, if there is a 'correction', it won't be in San Diego, it'll be at Fannie's.

K Harris

Historically, it is real side stuff, like a lack of household income, and financial sector silliness like the S&L meltdown, that have been hardest on housing demand.

Calmo

Current disposable household income has never been lower.

http://www.russell.com/us/search/searchResults.asp

Type in "single asset" when the Russell search page comes up and then open up "Single-Asset vs. Multi-Asset Portfolios."

Find the year by year performance record of a Real Estate Investment Trust Index from 1973-1974 through 2003.

A useful data set. Sorry about the earlier error in dating....

anne wrote, "Many households have been well bouyed by the increasing values of homes. Also, I note that a similar real estate price increase can be found in England and has helped the economy florish while much of Europe sturggles with slow growth."

Huh?

Most of that increase in the value of real estate is due to increase in Ricardian rent as demand for land, which is in fixed supply, increases.

Two problems:
(1) There's no more net wealth created, insofar as the land was already there.
(2) There's an equity issue---why should non-landowners have to pay rent to landowners, when the latter didn't create the value that led to the rent to begin with? (Yes, rent should be paid, but to government/the community, which created the value, not to landowners, who just extract a toll for use.)

As for a bubble, it's controversial whether there's a housing bubble in certain municipalities in the US. It's less controversial in the case of Britain---my impression is that a lot of people who've looked at the data say there's definitely a housing bubble there.

Failure to tax away all or most of Ricardian rent is, as pointed out by Henry George, one of the greatest public policy sins, from the perspectives of *both* equity and efficiency.

Well, I am guessing from the (lack of) response to my comment, that most people think that the Fed doesn't have its own little Taylor rule and just kind of wings it based on gaming some scenarios.

>The US market is no longer responding to the Fed.

I've heard this four times in my life.

One is in 1979, when people said the Fed could not control inflation or set off a recession with interest rates.

The second is in 1987, when people said the economy had too much "momentum" to listen to a change in Fed policy. I heard that all the way up to the Crash.

The third is in 1999, when people said that the NASDAQ was no longer listening to Greenspan.

Now I am hearing it again.

One more time:

Don't fight the Fed.