November 12, 2013
The End of Asset Purchases: Is That the Big Question?
Last Friday, Atlanta Fed President Dennis Lockhart delivered a speech at the University of Mississippi, the bottom line of which was reported by the Wall Street Journal's Michael Derby:
Federal Reserve Bank of Atlanta President Dennis Lockhart said Friday that central bank policy must remain very easy for some time to come, although he cautioned the exact mix of tools employed by the central bank will change over time...
"Monetary policy overall should remain very accommodative for quite some time," Mr. Lockhart said... "The mix of tools we use to provide ongoing monetary stimulus may change, but any changes will not represent a fundamental shift of policy"...
That's a pretty accurate summary, but Derby follows up with commentary that feels somewhat less accurate:
The big question about Fed policy is what the central bank does with its $85 billion-per-month bond-buying program. It had widely been expected to start slowing the pace of purchases starting in September, but when it didn't do that, expectations went into flux. Ahead of the jobs data Friday, many forecasters had gravitated to the view bond buying would be trimmed some time next spring. Now, a number of forecasters said the risk of the Fed slowing its asset buying sooner has risen.
Now, the views that I express here are not necessarily those of the Federal Reserve Bank of Atlanta. But in this case, I think I can fairly claim that what President Lockhart was saying was that the big question is not "what the central bank does with its $85 billion-per-month bond-buying program." The following part of President Lockhart's speech—reiterated today in a speech in Montgomery, Alabama—is worth emphasizing:
The FOMC [Federal Open Market Committee] is currently using two tools to maintain the desired degree of monetary accommodation—the policy interest rate and bond purchases. Importantly, the FOMC has stated that it intends to keep the short-term policy rate low at least until the unemployment rate falls below 6 1/2 percent. This "forward guidance" is meant to convey a sense of how long short-term interest rates will stay near current levels.
There is some confusion about how the Fed's forward guidance and asset purchase program relate to each other. I will give you my view.
In the toolkit the FOMC has at its disposal, there is a sense in which asset purchases and low policy rates are complementary. Asset purchases and forward guidance on interest rates are complements in the sense that they are both designed to put downward pressure on longer-term interest rates....
But there is also a sense in which these tools are substitutes. By substitutes I mean that guidance pointing to a sustained low policy rate and asset purchases are discrete tools that can be deployed independently or in varying combinations. They can be thought of as a particular policy tool mix chosen to fit the circumstances at this particular phase of the recovery.
In other words, there is an important difference between changing the amount of monetary stimulus and changing the tools deployed to provide that stimulus. When the only tool in play is the federal funds rate, equating adjustments in the Fed's policy rate with changes in the stance of monetary policy is, while not completely straightforward, relatively simple. With multiple tools in use, however, gauging the stance of monetary policy requires that the settings of all policy instruments be considered.
Suppose that the FOMC does scale back or end its asset purchases? Can that possibly be consistent with maintaining a constant degree of monetary stimulus? Sure, and one obvious option is to use adjustments to the forward guidance portion of the FOMC's current policy to provide additional stimulus as asset purchases are scaled back. There are pros and cons to that approach, many of which surfaced in the discussion of this paper, by the Federal Reserve Board's Bill English, David Lopez-Salido, and Bob Tetlow, which circulated last week. (See, for example, here, here, and here.)
In any event, a decision to replace asset purchases with some other form of stimulus—be it extending forward guidance or another alternative—would necessarily raise the question: Why bother? One answer might arise from the cost and efficacy considerations that the FOMC has identified as part of the calculus for whether to continue with asset purchases.
Here again, the fact of multiple tools is germane. With the option of different policy mixes, altering the asset purchase program on grounds of cost or efficacy need not mean that the costs of the program are large or the purchases themselves lack effect. It need only mean that the costs might be larger, or the purchases less effective, than providing the same set of stimulus with some alternative set of tools. I give the last word to President Lockhart:
Going forward, it may be appropriate to adjust the policy tool mix. That will depend on circumstances and the economic diagnosis of the moment.
By Dave Altig, executive vice president and research director at the Atlanta Fed
October 18, 2013
Why Was the Housing-Price Collapse So Painful? (And Why Is It Still?)
Foresight about the disaster to come was not the primary reason this year’s Nobel Prize in economics went to Robert Shiller (jointly with Eugene Fama and Lars Hansen). But Professor Shiller’s early claim that a housing-price bubble was full on, and his prediction that trouble was a-comin’, is arguably the primary source of his claim to fame in the public sphere.
Several years down the road, the causes and effects of the housing-price run-up, collapse, and ensuing financial crisis are still under the microscope. Consider, for example, this opinion by Dean Baker, co-director of the Center for Economic and Policy Research:
...the downturn is not primarily a “financial crisis.” The story of the downturn is a simple story of a collapsed housing bubble. The $8 trillion housing bubble was driving demand in the U.S. economy in the last decade until it collapsed in 2007. When the bubble burst we lost more than 4 percentage points of GDP worth of demand due to a plunge in residential construction. We lost roughly the same amount of demand due to a falloff in consumption associated with the disappearance of $8 trillion in housing wealth.
The collapse of the bubble created a hole in annual demand equal to 8 percent of GDP, which would be $1.3 trillion in today’s economy. The central problem facing the U.S., the euro zone, and the U.K. was finding ways to fill this hole.
In part, Baker’s post relates to an ongoing pundit catfight, which Baker himself concedes is fairly uninteresting. As he says, “What matters is the underlying issues of economic policy.” Agreed, and in that light I am skeptical about dismissing the centrality of the financial crisis to the story of the downturn and, perhaps more important, to the tepid recovery that has followed.
Interpreting what Baker has in mind is important, so let me start there. I have not scoured Baker’s writings for pithy hyperlinks, but I assume that his statement cited above does not deny that the immediate post-Lehman period is best characterized as a period of panic leading to severe stress in financial markets. What I read is his assertion that the basic problem—perhaps outside the crisis period in late 2008—is a rather plain-vanilla drop in wealth that has dramatically suppressed consumer demand, and with it economic growth. An assertion that the decline in wealth is what led us into the recession, is what accounts for the depth and duration of the recession, and is what’s responsible for the shallow recovery since.
With respect to the pace of recovery, evidence supports the proposition that financial crises without housing busts are not so unique—or if they are, the data tend to associate financial-related downturns with stronger-than-average recoveries. Mike Bordo and Joe Haubrich, respectively from Rutgers University and the Federal Reserve Bank of Cleveland, argue that the historical record of U.S. recessions leads us to view housing and the pace of residential investment as the key to whether tepid recoveries will follow sharp recessions:
Our analysis of the data shows that steep expansions tend to follow deep contractions, though this depends heavily on when the recovery is measured. In contrast to much conventional wisdom, the stylized fact that deep contractions breed strong recoveries is particularly true when there is a financial crisis. In fact, on average, it is cycles without a financial crisis that show the weakest relation between contraction depth and recovery strength. For many configurations, the evidence for a robust bounce-back is stronger for cycles with financial crises than those without...
Our results also suggest that a sizeable fraction of the shortfall of the present recovery from the average experience of recoveries after deep recessions is due to the collapse of residential investment.
From here, however, it gets trickier to reach conclusions about why changes in housing values are so important.
Simply put, why should there be a “wealth effect” at all? If the price of my house falls and I suffer a capital loss, I do in fact feel less wealthy. But all potential buyers of my house just gained the opportunity to obtain my house at a lower price. For them, the implied wealth gain is the same as my loss. If buyers and sellers essentially behave the same way, why should there be a large impact on consumption? *
I think this notion quickly leads you to the thought there is something fundamentally special about housing assets and that this special role relates to credit markets and finance. This angle is clearly articulated in these passages from a Bloomberg piece earlier in the year, one of a spate of articles in the spring about why rapidly recovering house prices were apparently not driving the recovery into a higher gear:
The wealth effect from rising house prices may not be as effective as it once was in spurring the U.S. economy...
The wealth effect “is much smaller,” said Amir Sufi, professor of finance at the University of Chicago Booth School of Business. Sufi, who participated in last year’s central-bank conference at Jackson Hole, Wyoming, reckons that each dollar increase in housing wealth may yield as little as an extra cent in spending. That compares with a 3-to-5-cent estimate by economists prior to the recession.
Many homeowners are finding they can’t refinance their mortgages because banks have tightened credit conditions so much they’re not eligible for new loans. Most who can refinance are opting not to withdraw equity after the first nationwide decline in house prices since the Great Depression reminded them home values can fall as well as rise...
Others are finding it difficult to refinance because credit has become a lot harder to come by. And that situation could worsen as banks respond to stepped-up government oversight.
“Credit is going to get tighter before it gets easier,” said David Stevens, president and chief executive officer of the Washington-based Mortgage Bankers Association...
“Households that have been through foreclosure or have underwater mortgages or are otherwise credit-constrained are less able than other households to take advantage” of low interest rates, Fed Governor Sarah Bloom Raskin said in an April 18 speech in New York.
(I should note that Sufi et al. previously delved into the relationship between household balance sheets and the economic downturn here.)
A more systematic take comes from the Federal Reserve Board’s Matteo Iacoviello:
Empirically, housing wealth and consumption tend to move together: this could happen because some third factor moves both variables, or because there is a more direct effect going from one variable to the other. Studies based on time-series data, on panel data and on more detailed, recent micro data point suggest that a considerable portion of the effect of housing wealth on consumption reflects the influence of changes in housing wealth on borrowing against such wealth.
That sounds like a financial problem to me and, in the spirit of Baker’s plea that it is the policy that matters, this distinction is more than semantic. The policy implications of an economic shock that alters the capacity to engage in borrowing and lending are not necessarily the same as those that result from a straightforward decline in wealth.
Having said that, it is not so clear how the policy implications are different. One possibility is that diminished access to credit markets also weakens policy-transmission mechanisms, calling for even more aggressive demand-oriented “pump-priming” policies of the sort Dean Baker advocates. But it is also possible that we have entered a period of deep structural repair that only time (and not merely government stimulus) can (or should) engineer: deleveraging and balance sheet repair, sectoral resource reallocation, new consumption habits, new business models driven by both market and regulatory imperatives, you name it.
In my view, it’s not yet clear which policy approach is closest to optimal. But I am fairly well convinced that good judgment will require us to think of the past decade as the financial event it was, and in many ways still is.
*Update: A colleague pointed out that my example describing housing price changes and wealth effects may be simplified to the point of being misleading. Implicitly, I am in fact assuming that the flow of housing services derived from housing assets is fixed, a condition that obviously would not hold in general. See section 3 of the Iacoviello paper cited above for a theoretical description of why, to a first approximation, we would not expect there to be a large consumption effect from changes in housing values.
By Dave Altig, executive vice president and research director at the Atlanta Fed
October 09, 2013
Delving into Labor Markets
Though never far from the headlines, the Federal Reserve's dual mandate comes front and center again with the announcement today of President Obama's nomination of Fed Vice Chair Janet Yellen as the next chair of the Board of Governors. Inevitably, analysis will turn to discussions of who is a hawk and who is a dove, who cares relatively more about inflation, and who cares relatively more about growth and employment.
That's unfortunate, because such characterizations really do miss the point. The debate among different policymakers is not about whether person A is more concerned about jobs and unemployment than person B, but about legitimate and longstanding conversations about what accounts for the performance of labor markets and what role monetary policy might have in the event that performance is judged to be subpar.
As it happens, the Atlanta Fed's most recent contribution to this discussion came last week in the form of the annual employment conference sponsored by the Bank's Center for Human Capital Studies. Organized, as in past years, by Richard Rogerson (Princeton University), Robert Shimer (University of Chicago), and Melinda Pitts (Federal Reserve Bank of Atlanta), the conference explored the causes of the continued weak labor market recovery in the United States. The existing literature has suggested a number of possibilities: wage rigidities, mismatch between workers' skills and the skills required by new jobs, extended unemployment insurance benefits and other government policy changes, and firms' reorganizing and asking workers to do more. The papers sought to analyze and document the importance of these factors for the slow recovery.
One notable policy change in the recent recession was the unprecedented expansion of unemployment insurance (UI) benefits to as long as 99 weeks for a very large fraction of UI-eligible workers. Did this increase play an important role in high levels of unemployment? Two papers from the conference addressed this question from different perspectives. "Do Extended Unemployment Benefits Lengthen Unemployment Spells? Evidence from Recent Cycles in the U.S. Labor Market," by Henry S. Farber and Robert G. Valetta, assessed the extent to which extended UI benefits result in higher unemployment because workers choose to remain unemployed longer. They find a statistically significant effect of longer UI durations on the duration of unemployment spells, but they conclude that the overall contribution to the unemployment rate was less than half a percentage point. Because the aggregate unemployment rate rose by more than 5 percent, this effect accounts for less than 10 percent of the overall increase.
"Unemployment Benefits and Unemployment in the Great Recession: The Role of Macro Effects," by Marcus Hagedorn, Fatih Karahan, Iourii Manovskii, and Kurt Mitman, offered a different perspective. The authors look at the evolution of unemployment rates in counties that are adjacent but lie in different states. They use the fact that the timing of extended benefits occurs at different times across states to identify the effect of extended UI durations on country-level unemployment. They find that the effects are sufficiently large that the increase in UI duration can account for virtually all of the increase in unemployment.
While seemingly at odds, the results of these two studies are consistent. The first paper shows that the decrease in the job-finding rate for workers with relatively longer benefits did not increase that much compared with the rate for workers with shorter-duration benefits, holding the overall unemployment rate constant. The second paper argues that the job-finding rate decreases for everyone when benefits are extended. The authors find that when some workers have access to longer-duration UI benefits, being unemployed is not as painful for them, which puts upward pressure on wages. To the extent that firms cannot target their job openings toward workers without access to UI, firms may be less likely to create jobs, making it harder for all workers to get job offers. The impact on uninsured workers may be as large as the impact on insured workers, and so the microeconomic estimates in Farber and Valetta will not necessarily uncover UI's total impact on the unemployment rate.
The possible role of wage rigidities has figured prominently in many accounts of the large increase in unemployment during the recent recession. Two papers considered the importance of this explanation. "Wage Adjustment in the Great Recession," by Michael Elsby, Donggyun Shin and Gary Solon, used microdata from the U.S. Census Bureau's Current Population Survey to examine the extent to which wages are sticky. The paper finds that there has been less response in average real wages during the recent recession than in previous recessions, perhaps suggesting that real wage rigidity contributed to the large increase in unemployment. However, they also show that wages at the individual level are really quite flexible. Specifically, relatively few individuals have zero nominal wage growth from one year to the next, and many people experience decreases in nominal wage rates.
A key issue in the theoretical literature is the extent to which wage stickiness affects new hires versus existing workers. In "How Sticky Wages in Existing Jobs Can Affect Hiring," authors Mark Bils, Yongsung Chang and Sun-Bin Kim show that even if wages for new hires are completely flexible, they may nonetheless have large effects on unemployment fluctuations when one allows for an "effort decision" for existing workers. This decision means that in response to negative shocks, firms require existing workers to expend more effort given that their wage is fixed, decreasing the need to hire new workers. The authors show that this effect is quantitatively significant and can come close to resolving the unemployment volatility puzzle, which relates to the large fluctuations in unemployment relative to productivity.
An empirical regularity that has appeared in the last few years is an outward shift in the Beveridge curve, which relates the unemployment rate to the level of vacancies. One interpretation of this upward shift is that the matching of unemployed workers and vacancies has worsened. Yet there is a lot of variety in the job-search effort by workers with different characteristics, such as the length of unemployment, whether they are on temporary layoff, and so on. In "Measuring Matching Efficiency with Heterogeneous Jobseekers," Robert Hall and Sam Schulhofer-Wohl devise a method for incorporating this heterogeneity into the analysis and show that there has indeed been a decrease in the matching rate for workers during the last few years. It will be important for future research to determine how much this decrease reflects a decline in search intensity or whether the lower job-finding rates represent a decrease for a given level of search intensity.
Related to the two issues of nominal rigidities and mismatch, in the paper "Labor Mobility within Currency Unions," Emmanuel Farhi and Ivan Werning study the role of labor mobility in diminishing the effects associated with nominal rigidities. For example, some researchers have suggested that a key difference between the apparent success of the United States relative to the euro zone is U.S. labor is more mobile. Farhi and Werning argue that one should not assume the mobility necessarily reduces the effects of nominal rigidities. In particular, they conclude that mobility eases the effects of nominal rigidities only if goods markets are well integrated.
Two papers focused on the nature of worker mobility across firms in the recent recession. In "Worker Flows over the Business Cycle: The Role of Firm Quality," Lisa Kahn and Erika McEntarfer examine recent changes in flows of workers between firms that offer jobs of differing quality. They find that that lower-quality firms decreased both hiring and separations by large and equal amounts, whereas high-quality firms have much smaller declines in both hiring and separations. The net result is that the fraction of workers in lower-quality jobs tends to increase during recessions.
In closely related work, "Did the Job Ladder Fail after the Great Recession?" by Giuseppi Moscarini and Fabien Postel-Vinay, uses data from the U.S. Bureau of Labor Statistics' Job Openings and Labor Turnover Survey (JOLTS) to study the hiring and separation patterns across firms of different sizes. They determine that the pattern of firm growth across size classes was different during this recession than in previous recessions. In particular, they find that following the Lehman Brothers collapse, smaller firms actually fared worse than larger firms, perhaps because financing constraints had more severe consequences for smaller firms.
As the provisions in the Affordable Care Act (ACA) take effect in the coming months, there may be large effects not only on the market for health care but also on the labor market. In particular, the ACA will implicitly introduce taxes and subsidies that will differ across firms and workers of different types. In "Effects of the Affordable Care Act on the Amount and Composition of Labor Market Activity," Trevor Gallen and Casey Mulligan develop a framework to think about how these provisions will influence labor market outcomes across different sectors and worker types, and they use a calibrated version of the model to quantify the effects. The authors predict that the ACA will substantially reduce the return to market work for low-skilled individuals and that a large number of individuals who currently receive health insurance through their employers will end up purchasing insurance through the exchanges established as part of the ACA.
The conference also featured a presentation by Ed Lazear, "The New Normal? Productivity and Employment during the Recession and Recovery." The talk highlighted three themes from Lazear's recent research. First, productivity did not decline in the recent recession—as it typically had done in previous recessions—perhaps reflecting that workers expend more effort during periods of high unemployment since they fear unemployment more in a weak labor market. Second, the unemployment rate is a less useful indicator of the overall state of the labor market during the current recovery (in recent years the decline in the unemployment rate has not been accompanied by an increase in the employment-to-population ratio, since labor force participation has declined). The third theme is that the deterioration in labor market outcomes during the recent recession should be interpreted as cyclical rather than structural and, hence, a labor market recovery is likely once GDP growth is stronger.
We certainly wouldn't claim that the conference put to rest any of the relevant questions that will confront the Federal Open Market Committee and its new chair going forward. But we do believe that continuing to support the dissemination of the type of research presented at this conference gives us a fighting chance.
By Richard Rogerson of Princeton University and Robert Shimer of the University of Chicago, both advisers to the Atlanta Fed's Center for Human Capital Studies, and Melinda Pitts, director of the Atlanta Fed's Center for Human Capital Studies
October 04, 2013
Certain about Uncertainty
The Bloom-Davis index of Economic Policy Uncertainty hit 162 in September, up from 102 in August and the highest level seen since December 2012. With all this uncertainty, we can be certain that the events surrounding the government shutdown are having an impact.
This notion of increased uncertainty is captured nicely in our most recent poll of small businesses in the Southeast (past results available here), which went live on September 30, the day before the government shutdown. Although the survey is still out in the field, some early results show:
- Most firms are expressing more uncertainty (see the chart),
- For a significant portion of firms, uncertainty today is having a greater impact than six months ago, and
- The government is heavily featured as a source of the uncertainty.
Of course, what we really care about is whether higher uncertainty is affecting economic activity. When asked, 45 percent of our respondents indicate that uncertainty is in fact having a greater impact on their business than six months ago, up from 37 percent in the first-quarter 2013 survey (relative to fall 2012). Further, fewer firms so far have indicated that uncertainty is having less of an impact. In the current survey, 9 percent of firms have reported less of an effect, compared with 16 percent at the close of last April's survey.
And what are the sources of uncertainty, as seen by our panel of businesses? Eighty-percent of participants have responded to our open-ended question about the primary source(s) of uncertainty. The following "word cloud" summarizes their views:
We will get more responses to the survey over the next week or so, and these may show a different picture. But we're pretty certain of one thing—the duration of the current fiscal impasse in Washington will make a difference.
By John Robertson, vice president and senior economist, and
Ellyn Terry, economic policy analysis specialist, both in the research department of the Atlanta Fed
October 03, 2013
Why No Taper? One Man's View
One possibility is that Bernanke and the other FOMC leaders… never intended to start tapering…
A second possible explanation is that Bernanke and other Fed leaders were indeed anticipating that they would begin tapering QE in September but were startled at how rapidly long-term rates had risen in response to their earlier statements…
The third scenario is that economic activity was clearly slowing, with the future pace of activity therefore vulnerable to even higher interest rates.
Speaking only for myself, I choose Feldstein's third option. He goes a good way to making the case himself:
The annualized GDP growth rate in the first half of 2013 was just 1.8%, and final sales were up by only 1.2%. Although there are no official GDP estimates for the third quarter, private-sector assessments anticipate no acceleration in growth, putting the economy on a path that will keep this year's output gain at well under 2%.
That unfortunate story was pretty clear on the eve of the FOMC meeting—in particular, the lack of evidence that growth in the second half of the year would be an improvement on the already disappointing pace of the first half. Our own internal "nowcast" tracking model was suggesting third-quarter GDP growth in the neighborhood of the sub-2 percent growth that Feldstein cites. And as this table shows, things have not improved since:
These facts, of course, were reflected in the downgrade of the 2013 growth forecasts published in FOMC participants' Summary of Economic Projections. But that is not all, as Professor Feldstein reports:
In addition, the Fed's preferred measure of inflation was much lower than its 2% target. The annual price index for personal consumer expenditure, excluding food and energy, has been rising for several months at a rate of just 1.2%, increasing the possibility of a slide into deflation.
And even if you don't go in for inflation measures that exclude food and energy, it doesn't much matter, because all-in inflation was, and still is, also running well below that 2 percent target:
Though the August personal consumption expenditures price report finally provided a slight uptick in year-over-year core inflation, there was not even that scant hint of a return to the 2 percent inflation target by FOMC meeting time.
And that was looking a lot like strike number two to me. As Fed Chairman Ben Bernanke explained at the post-meeting press conference, repeating the criteria for adjustments to the FOMC asset purchase program that he laid out in June:
We have a three-part baseline projection which involves increasing growth…, continuing gains in the labor market, and inflation moving back towards objective… we'll be looking to see if the data confirm that basic outlook.
Of the remaining element of the three-part baseline, it is true that 12-month average monthly job gains looked pretty much like they did in June, when the talk of taper got serious:
But the momentum—which I measure here as the ratio of three-month average monthly job gains to the 12-month average—was clearly in the downward direction:
What's more, the revisions in prior months' employment statistics were running in the wrong direction:
As a rule, forecasters don't sweat being wrong. That comes with the territory. But when you are persistently wrong in the same direction, it is time to worry at least a bit.
So, what do we have, then?
- Inflation is low relative to the FOMC's objective—and has not moved in the direction of that objective with any conviction.
- GDP growth has disappointed, with the anticipated pickup in second-half growth nowhere in sight.
- "Continuing gains in the labor market" at the pace seen earlier in the year are looking a little shaky.
I find it pretty easy to see how this fails to add up to satisfaction of the three-part economic conditionality laid out in June by the Chairman (on behalf of the FOMC).
One could argue, I suppose, that the FOMC's explicit tying of asset purchases to improvement in the labor market makes it first among equals in the three-part test (as long as inflation is relatively stable), that similar downward momentum on the job front arose and disappeared in the summer of 2012, and that with a little patience things will appear on track.
Maybe. But I would point out that the reversal of negative momentum in the labor market the summer before was accompanied by the initiation of "QE3" (or at least the MBS part of QE3). You can draw your own conclusions about causality, but there is a fairly convincing case to be made for the proposition that, with the data in hand at the time, a wait-and-see decision was what patience dictated.
That, of course, begs the main question posed in Feldstein's article: When will it be time to taper? On that, and in the spirit of baseball playoff season, get your scorecard here.
By Dave Altig, executive vice president and research director at the Atlanta Fed
September 26, 2013
The New Normal? Slower R&D Spending
In case you need more to worry about, try this: the pace of research and development (R&D) spending has slowed. The National Science Foundation defines R&D as “creative work undertaken on a systematic basis in order to increase the stock of knowledge” and application of this knowledge toward new applications. (The Bureau of Economic Analysis (BEA) used to treat R&D as an intermediate input in current production. But the latest benchmark revision of the national accounts recorded R&D spending as business investment expenditure. See here for an interesting implication of this change.)
The following chart shows the BEA data on total real private R&D investment spending (purchased or performed on own-account) over the last 50 years, on a year-over-year percent change basis. (For a snapshot of R&D spending across states in 2007, see here.)
Notice the unusually slow pace of R&D spending in recent years. The 50-year average is 4.6 percent. The average over the last 5 years is 1.1 percent. This slower pace of spending has potentially important implications for overall productivity growth, which has also been below historic norms in recent years.
R&D spending is often cited as an important source of productivity growth within a firm, especially in terms of product innovation. But R&D is also an inherently risky endeavor, since the outcome is quite uncertain. So to the extent that economic and policy uncertainty has helped make businesses more cautious in recent years, a slow pace of R&D spending is not surprising. On top of that, the federal funding of R&D activity remains under significant budget pressure. See, for example, here.
So you can add R&D spending to the list of things that seem to be moving more slowly than normal. Or should we think of it as normal?
By John Robertson, vice president and senior economist in the Atlanta Fed’s research department
September 23, 2013
The Dynamics of Economic Dynamism
Earlier today, Atlanta Fed President Dennis Lockhart gave a speech at the Creative Leadership Summit of the Louise Blouin Foundation. He posed the questions: Is the economic dynamism of the United States declining? Is America losing its economic mojo? He observed:
“... we see a picture in which fewer firms are expanding, and each expanding firm is adding fewer new jobs on average than in the past. Fewer firms are shrinking, and each is downsizing by less on average. Fewer people are being laid off or are quitting their job, and firms are hiring fewer people. In other words, the employment dynamics of the U.S. economy are slower.
The decline in job creation and destruction was also the theme of this recent macroblog post by Mark Curtis, which featured some pretty nifty dynamic charts of trends in job creation and destruction by industry and geography.
Identifying the policy implications of these slower dynamics requires careful diagnosis of the causal factors underlying the trends. The cutting edge of economic research looking at this issue was featured at the 2013 Comparative Analysis of Enterprise Data Conference hosted last week by the Atlanta Census Research Data Center (ACRDC), which is housed at the Atlanta Fed and directed by one of our senior research economists, Julie Hotchkiss. Through the ACRDC, qualified researchers in Atlanta and around the Southeast can perform statistical analyses on non-public Census microdata.
The agenda and papers presented at the conference are located here. Some of the papers, I think, were particularly relevant to what President Lockhart discussed. A few examples:
“Reallocation in the Great Recession: Cleansing or Not?” by Lucia Foster and Cheryl Grim of the Center for Economic Studies at the U.S. Census Bureau and John Haltiwanger at the University of Maryland looked at the so-called “cleansing hypothesis,” in which recessions are not only periods of outsized job creation and destruction, but they are also periods in which the reallocation is especially productivity enhancing. They find that while previous recessions fit this pattern reasonably well, they do not see this kind of activity in the most recent recession. In fact, they find that in the manufacturing sector, the intensity of reallocation fell rather than rose (because of the especially sharp decline in job creation), and the reallocation that did occur was less productivity enhancing than in prior recessions.
“How Firms Respond to Business Cycles: The Role of Firm Age and Firm Size,” by Javier Miranda, Teresa Fort, John Haltiwanger and Ron Jarmin, looked at the varying impact of recessions on firms by size and age. They show that young businesses (which are typically small) exhibit very different cyclical dynamics than small/older businesses and are more sensitive to the cycle than larger/older businesses. The paper also explores explanations for the finding that young/small businesses were hit especially hard during the last recession. They identify the collapse in housing prices as a primary culprit, with the decline in job creation at young firms especially pronounced in states with a large drop in housing prices.
As a side note, although not presented at the conference, “The Secular Decline in Business Dynamism in the U.S.,” a new paper by Ryan Decker, John Haltiwanger, Ron Jarmin and Javier Miranda, analyzes the overall secular decline in job reallocation across industries. They find that changes in industry composition (the decline in manufacturing and rise of service industries) are not driving the decline. Instead, the primary driver seems to be the decline in the pace of entrepreneurship and the accompanying decline in the share of young firms in the economy.
Finally, Steve Davis, from the University of Chicago, talked about his joint research with John Haltiwanger, Kyle Handley, Ron Jarmin, Josh Lerner and Javier Miranda on private equity in employment dynamics, Private equity critics claim that leveraged buyouts bring huge job losses. Davis shows that private-equity buyouts are followed by a decline in net employment at these firms relative to controls (similar firms that were not targets of a buyout). However, that net change pales compared with the amount of gross job creation and destruction that typically occurs within the target firm after the buyout. In particular, he finds that in addition to reducing employment at its existing establishments, including by selling some establishments to other firms, jobs are created at new establishments within the firm via acquisition and the opening of new establishments. Moreover, they show that this reallocation is generally productivity enhancing for the firm. Although the data used in the study go only through the mid-2000s, it seems reasonable to infer from the findings that the decline in private equity deals during and since the last recession has contributed to the overall lower level of employment dynamics in this recovery.
The Comparative Analysis of Enterprise Date Conference was an excellent representation of the type of high-quality research being conducted on questions that go to the heart of the cyclical-versus-structural debate about the future course of the U.S. economy. While this is an exciting and important time for researchers in this field, it is troubling to learn that the programs that collect the data used in these types of studies are being trimmed because of federal budget cuts.
By John Robertson, vice president and senior economist in the Atlanta Fed’s research department
September 17, 2013
The ABCs of LFPR
As the Federal Open Market Committee (FOMC) meets amid much speculation about the next steps for monetary policy, it does so in in the context of an August 2013 Employment Situation report that was generally viewed as a mixed bag. The employment numbers undershot the consensus among most market observers, while the unemployment rate edged down again. But even the drop in the unemployment rate—a cumulative 0.8 percentage point over the past 12 months—failed to impress everyone. Martin Feldstein, for instance:
The official unemployment rate has declined sharply (to 7.3% last month from 10% in October 2009) only because so many people have stopped looking for work or are working part-time.
Part of what Professor Feldstein is referring to, of course, is the labor force participation rate (LFPR), which measures the share of the adult population that is in the labor force. LFPR includes those who are employed and those who are unemployed but looking for a job, but not those who are unemployed and are not looking for a job (which includes retirees and discouraged workers).
We generally refrain from direct commentary about issues related to monetary policy in the time surrounding FOMC meetings. I won't break with that tradition but am more than happy to highlight a resource that can help you draw your own conclusions about all things having to do with the labor market, including the LFPR.
Our Center for Human Capital Studies' Federal Reserve Human Capital Compendium is a collection of Federal Reserve System research published on topics related to employment, unemployment, and workforce development. Our latest update offers several entries that address the LFPR and its implications for the labor market. Two recent additions:
Will a Surge in Labor Force Participation Impede Unemployment Rate Improvement? Researchers at the Richmond Fed concluded that, in the short run, the LFPR and the unemployment rate are negatively correlated. This conclusion is derived from the fact that unemployed participants in the labor force are more likely to leave the labor force than those who are employed. Also, movement from unemployed non-participant to employed participant (basically skipping the unemployed-participant phase) is more likely in an improving labor market. They concluded that movements in the LFPR lag six months behind movements in the unemployment rate.
Cyclical versus Secular: Decomposing the Recent Decline in U.S. Labor Force Participation. Researchers at the Federal Reserve Bank of Boston found that since 2008, the decline in the LFPR largely reflects demographic effects of an aging population. Furthermore, the cyclical response of the LFPR during the latest recession and recovery period has been smaller than expected, so the unemployment rate would have been three-quarters of a percent lower if the LFPR had followed historical norms. They conclude that going forward, the unemployment rate should give an accurate read on labor market conditions and that further cyclical declines in the LFPR are unlikely if the labor market continues to improve.
But much more information on the LFPR and other topics including wages and earnings, outsourcing, and productivity is available. If you're looking for something to do while you await the FOMC's decision, one option is building a little human capital of your own with our Human Capital Compendium.
By Whitney Mancuso, a senior economic analyst in the Atlanta Fed's research department
September 13, 2013
Job Reallocation over Time: Decomposing the Decline
One of the primary ways an economy expands is by quickly reallocating resources to the places where they are most productive. If new and productive firms are able to quickly grow and unproductive firms can quickly shrink, then the economy as a whole will experience faster growth and the many benefits (such as lower unemployment and higher wages) that are associated with that growth. Certain individuals may experience unemployment spells from this reallocation, but economists, starting with Joseph Schumpeter, have found that reallocation is associated with economic growth and wage growth, particularly for young workers.
Recently, a number of prominent economists such as John Haltiwanger have expressed concern that falling reallocation rates in the United States are a major contributor to the slow economic recovery. One simple way to quantify the speed of reallocation is to examine the job creation rate—defined as the number of new jobs in expanding firms divided by the total number of jobs in the economy—and the destruction rate, defined likewise but using the number of jobs lost by contracting firms. Chart 1 plots both the creation and the destruction rates of the U.S. economy starting in 1977. These measures track each other closely with creation rates exceeding destruction rates during periods of economic growth and vice versa during recessions. The most recent recession saw a particularly sharp decline in job creation (you can highlight the creation rate by clicking on the line), but it is clear this decline is part of a larger trend that far predates the current period. A decline in these rates could indicate less innovation or less labor market flexibility, both of which are likely to retard economic growth. Feel free to explore the measures for yourself using the figure’s interactivity.
To better understand these important trends we create a common variable called reallocation, which is defined as total jobs created plus total jobs destroyed, divided by total jobs in the economy. This formula creates one measure that describes how quickly jobs are moving from shrinking firms to expanding firms. Using data from the U.S. Census Bureau’s Business Dynamic Statistics, we examine differences in this variable across sectors and across states. Furthermore, using some basic data visualization tools, we can see how reallocation has evolved over time across these dimensions.
Chart 2 plots reallocation rates by industry from 1977 to 2011. The plot highlights the reallocation rate for all industries, but you can also select or deselect any industry to more clearly view how it has changed over time. Scrolling over the lines allows you to view the exact rates by industry in any time period. A few interesting patterns emerge. First, sectors have different levels of job reallocation in the cross section. Manufacturing stands out as having particularly low reallocation rates, probably the result of the large fixed-cost capital requirements required in production. Second, not all industries experienced sharp declines during this period. If you highlight the finance, insurance, and real estate sector, it is evident that reallocation rates actually increased for this sector until the most recent recession. Retail and construction, on the other hand, have experienced steady and significant declines during the past 35 years.
Chart 3 maps reallocation rates across states for the year 1977. This figure provides us with a cross sectional view of geographical differences in reallocation rates. States with the highest reallocation rates are dark brown, and states with the lowest rates are light brown. You can click through the years to visually capture how these rates have changed overtime for each state. Compare the color of the map in 1977 with the color in 2011. Scroll the mouse over any state to view that state’s reallocation rate in the particular year.
As with industries, states display clear cross sectional differences in their reallocation rates. The highest rates are found in western states, Florida, and Texas, and the lowest are in the Midwest. Scrolling through the years shows that the decline in reallocation rates is common to the entire country.
Overall, these figures display a stark trend. The economy is reallocating jobs at much slower rates than 20 or even 10 years ago, and this decline is, with only a few exceptions, common across states and industries. Economists are just now starting to explore the causes of this trend, and a single, compelling explanation has yet to emerge. But some explanation is clearly in order and clearly important for economic policymakers, monetary and otherwise.
By Mark Curtis, a visiting scholar in the Atlanta Fed's research department
Please note that the charts and maps in this post were updated and improved on November 27, 2013.
August 30, 2013
Still Waiting for Takeoff...
On Thursday, we got a revised look at the economy’s growth rate in the second quarter. While the 2.5 percent annualized rate was a significant upward revision from the preliminary estimate, it comes off a mere 1.1 percent growth rate in the first quarter. That combines for a subpar first-half growth rate of 1.8 percent. OK, it’s growth, but not as strong as one would expect for a U.S. expansion and clearly a disappointment to the many forecasters who had once (again) expected this to be the year the U.S. economy shakes itself out of the doldrums.
Now, we’re not blind optimists when it comes to the record of economic forecasts. We know well that the evidence says you shouldn’t get overly confident in your favorite economists’ prediction. Most visions of the economy’s future have proven to be blurry at best.
Still, we at the Atlanta Fed want to know how to best interpret this upward revision to the second-quarter growth estimate and how it affects our president’s baseline forecast “for a pickup in real GDP growth over the balance of 2013, with a further step-up in economic activity as we move into 2014.”
What we can say about the report is that the revised second-quarter growth estimate is a decided improvement from the first quarter and a modest bump up from the recent four-quarter growth trend (1.6 percent). And there are some positive indicators within the GDP components. For example, real exports posted a strong turnaround last quarter, presumably benefiting from Europe’s emerging from its recession. And the negative influence of government spending cuts, while still evident in the data, was much smaller than during the previous two quarters. Oh, and business investment spending improved between the first and second quarters.
All good, but these data simply give us a better fix on where we were in the second quarter, not necessarily a good signal of where we are headed. To that we turn to our “nowcast” estimate for the third quarter based on the incoming monthly data (the evolution of which is shown in the table below).
A "nowcasting" exercise generates quarterly GDP estimates in real time. The technical details of this exercise are described here, but the idea is fairly simple. We use incoming data on 100-plus economic series to forecast 12 components of GDP for the current quarter. We then aggregate those forecasts of GDP components to get a current-quarter estimate of overall GDP growth.
We caution that unlike others, our nowcast involves no interpretation whatsoever of these data. In what is purely a statistical exercise, we let the data do all the speaking for themselves.
Given the first data point of July—the July jobs report—the nowcast for the third quarter was pretty bleak (1.1 percent). Things improved a few days later with the release of strong international trade data for June, and stepped up further with the June wholesale trade report. But the remainder of the recent data point to a third-quarter growth rate that is very close to the lackluster performance of the first half.
In his speech a few weeks ago, President Dennis Lockhart indicated what he was looking for as drivers for stronger growth in the second half of this year.
“I expect consumer activity to strengthen.”
Today’s read on real personal consumption expenditures (PCE) probably isn’t bolstering confidence in that view. Real PCE was virtually flat in July, undermining private forecasters’ expectation of a moderate gain. Our nowcast for real GDP slipped down 0.5 percentage points to 1.4 percent on the basis of this data, and pegged consumer spending at 1.7 percent for Q3—in line with Q2’s 1.8 percent gain.
“I expect business investment to accelerate somewhat.”
The July data were pretty disappointing on this score. The durable-goods numbers released a few days ago were quite weak, causing our nowcast, and those of the others we follow, to revise down the third-quarter growth estimate.
“I expect the rebound we have seen in the housing sector to continue.”
Check. Our nowcast wasn’t affected much by the housing starts data, but the existing sales numbers produced a positive boost to the estimate. Our nowcast’s estimate of residential investment growth in the third quarter is well under what we saw in the second quarter. But at 5.3 percent, the rebound looks to be continuing.
“I expect the recent improvement in exports to last.”
Unfortunately, the July trade numbers don’t get reported until next week. So we’re going to mark this one as missing in action. But as we said earlier, that June trade number was strong enough to cause our third-quarter nowcast to be revised up a bit.
“And I expect to see an easing of the public-sector spending drag at the federal, state, and local levels.”
Again, check. The July Treasury data indicated growth in government spending overall.
So the July data are a mixed bag: some positives, some disappointments, and some missing-in-actions. But if President Lockhart were to ask us (and something tells us he just might), we’re likely to say that on the basis of the July indicators, the “pickup in real GDP growth over the balance of 2013” isn’t yet very evident in the data.
This news isn’t likely to come as a big surprise to him. Again, here’s what he said publicly two weeks ago:
When I weigh the balance of risks around the medium-term outlook I laid out, I have some concerns about the potential for ambiguous or disappointing data. I also think that it is important to be realistic about the degree to which we are likely to have clarity in the near term about the direction of the economy. Both the quantity of information and the strength of the signal conveyed by the data will likely be limited. As of September, the FOMC will have in hand one more employment report, two reports on inflation, a revision to the second-quarter GDP data, and preliminary incoming signals about growth in the third quarter. I don't expect to have enough data to be sure of my outlook.
It’s still a little early to say with any confidence we won’t eventually see a pickup this quarter, and we can hope that the incoming August numbers show a more marked improvement. All we can say at this point is that after seeing most of the July data, it still feels like we’re stuck on the tarmac.
By Mike Bryan, vice president and senior economist,
Patrick Higgins, senior economist, and
Brent Meyer, economist, all in the Atlanta Fed's research department