The Atlanta Fed's macroblog provides commentary and analysis on economic topics including monetary policy, macroeconomic developments, inflation, labor economics, and financial issues.

Authors for macroblog are Dave Altig, John Robertson, and other Atlanta Fed economists and researchers.

« December 2005 | Main | February 2006 »

January 31, 2006

In Defense Of "Overshooting"

No matter what comes of today's FOMC meeting, or those that immediately follow, there is no question that the funds rate has come along way since June 2004 when the current spate of rate hikes commenced.  In a post last week at Angry Bear, Kash Mansori suggested that we have seen this movie before:

One pattern that we’ve seen is that, during periods of monetary tightening, the Fed has tended to overshoot and tighten too much, necessitating a relatively quick reversal of policy...

During each of the past three episodes of monetary tightening, the Fed quickly realized that they had gone too far, and were forced to reduce interest rates after only a short time. In 1989 and 1995 they reversed course on monetary policy after only 4 months, and in 2000 they reversed course after 7 months...

... such policy mistakes are probably more the rule than the exception among central bankers. But it does add to my worries for the economic outlook in 2006. Is there any reason to think that the Fed won’t overshoot again this year, and find itself soon wishing that they hadn’t raised interest rates quite so much?

That 1995 episode is instructive, so let's explore the record in a little more detail.  To begin with, I tend to define policy as being "tight" or "easy" more in terms of the relationship between the funds rate and longer-term interest rates than in the level of the funds rate itself.  The reasons for this are spelled out in some detail here, but a rough translation would be something like "flat-yield curve, tight; steep yield curve, easy."  One simple way to get a look at the contour of the yield curve is to compare the funds rate to the yield on 10-year Treasuries:




By this measure, policy did become relatively tight in 1994-95, although the pace was much slower than just looking at the funds rate alone would suggest.  Furthermore the bulk of the action took place late in the game, and as a result of the FOMC standing pat on the funds rate as the 10-year yield was falling. 

No matter how you choose to define monetary tightness, however, it is easy to see the justification for a policy adjustment during that period.  The following is a picture of Blue Chip inflation expectations over the same period of the graph above:



That is a picture of success.  But, even so, did policy overshoot?  Did the FOMC take the funds rate too high, and wait too long to move in the opposite direction as inflation expectations abated and long-term interest rates fell? 

Perhaps, but as Kash fairly points out, it is difficult to be too precise in real time, and the central bank appears to have erred on the side of containing expectations and inflationary pressures, as good central banks are wont to do. 

Did this caution come at a cost?  Again, perhaps.  Here is the record of GDP growth:





The growth rate of the economy in 1995 was indeed weak in the context of the surrounding years.  In particular, GDP growth in the first half of the year was woeful.  But the policy enacted in 1994 and 1995 arguably set the stage for the years that followed,  years characterized by better-than-average growth and stable inflation.

So let me ask this question.  Suppose that, in retrospect, we find that the FOMC's current round of rate hikes went a little too far.  Suppose that we find that fourth-quarter 2005 GDP growth was not an aberration, but the first of several quarters of sub par economic expansion.  But suppose further that we find that the extraordinary sequence of energy-price shocks over the current recovery did not bring a persistent increase in the overall inflation trend.  And suppose we find that, following two or three quarters of soft economic activity, GDP expanded at rates between 3 and 4 percent for years after. 

Would you complain?

January 31, 2006 in Federal Reserve and Monetary Policy | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference In Defense Of "Overshooting":

» Should the Fed worry about going too far? from Econbrowser
I wanted to weigh in on the exchange between Kash Mansori at Angry Bear and Dave Altig at Macro... [Read More]

Tracked on Feb 1, 2006 11:32:12 PM


But what if it resulted in recession like 90 or 01 instead? The question would seem to be how sensitive is the economy now relative to those earlier times, and how much and how long an overshoot follows. Is there any economy out there to pick up from imports, construction, and housing? Certainly not manufacturing.

Posted by: Lord | January 31, 2006 at 02:42 PM

I can't figure why Academic Economists and Fed analysts are staying mute on the Fed's decision to drop reporting of M3. I've brutalized an excerpt on relative clarity from a recent talk by intellectual Noam Chomsky to remind you of that: "Relative clarity matters. It is pointless to seek a truly precise definition of "inflation", or any other concept outside of the hard sciences & mathematics, often even there. But we should seek enough clarity at least to distinguish inflation from two notions that lie uneasily at its borders: aggression & legitimate resistance."
Why study Macro Economics if tenured Academics stand mute to this latest assault by vested interests on the field's single most important term?

Posted by: bailey | January 31, 2006 at 07:51 PM


"suppose we find that, following two or three quarters of soft economic activity, GDP expanded at rates between 3 and 4 percent for years after."

I could live with that as long as vigilance against debauchery of the currency was maintained, real jobs (not McJobs) started re-appearing and a real effort to promote a durable domestic economic base was made.

Is that asking for too much these days??

Posted by: The Nattering Naybob | January 31, 2006 at 10:59 PM

David: I don't disagree with much of what you said, but I do think that the issue of the time lag needs to be addressed. You identify a monetary policy "success" in reducing inflation and inflation expectations in the middle of 1995. Fair enough.

But my point is slightly different: given the economy's response lag to interest rate changes, those "successful" inflation effects were presumably due to the interest rate increases that happened in early and mid-1994. The subsequent tightening in late 1994 and early 1995 had had very little chance to affect the economy by mid 1995, and so I would argue that those latter interest rate increases were not beneficial, and thus probably unnecesary. In fact, the Fed presumably realized that themselves, given that they very quickly undid the last few hikes.

Thus the central problem in my mind is the inherent difficulty posed by the long time lags between interest changes and any impact on the economy. There's no easy solution to that problem... but it does make me think that there's a reasonable possibility that today's interest rate increases will be unwanted by the time they actually start to have a real impact on the economy in 6 or 12 or 18 months.

Posted by: Kash Mansori | February 01, 2006 at 08:25 AM

Frankly, i think you all may be missing the point........real interest rates on a global basis are exceptionally low at this stage of the cycle.

Hence, the risk isn't overshoot, but that they are undershooting!

that's why all the talk about pause has been inappropriate, mkts are bullish equities, and selling bonds looks like the best mkt trade this year!

Posted by: andres | February 01, 2006 at 11:23 AM


Dave points out "No matter how you choose to define monetary tightness, however, it is easy to see the justification for a policy adjustment during that period."

And Kash points out, its the latencies that make the "wash out" period difficult to gauge.

For example: even the quarterly % increases in M3 during 05 of 1.5% to 2.3% seem benign. Its the acceleration rate of M3 that is alarming:

Q2 to Q1 = 12.5%; Q3 to Q2 = 81.1%; Q4 to Q2 = 62.4%; Q3+Q4 to Q1+Q2 = 82%

Where is this sea of green going to gravitate? And thats just our currency, other currencies (RMB, yen & Euro) are experiencing the same effect.

We are in uncharted and nebulous waters with hindsight implements to navigate. The central banks can only go based on past experience and hope for the best.

Posted by: The Nattering Naybob | February 01, 2006 at 01:32 PM

Nattering, I am curious since we now are in a world economy. If we agree that the dollar is the currency of last resort, and that interest rates have been kept artificially low buy foreign bank purchases, what have the corresponding M3 figures been like in yen and euros? Has there been expansion there? Or has the monetary policy been so tight world wide that the fed can afford to be loose with M3?

Posted by: jeff | February 01, 2006 at 03:34 PM

Lord -- You are, of course, right. I might have told the story of the 1999-2000 episode instead, and the outcome would look a lot less pretty. One difference is that there was an outright inversion in 2000, but the big difference is that relatively tight monetary policy was combined with other stress points. That may not be much comfort now because a couple of those -- an energy price shock and "investment overhang" in particular -- have analogs in the current period. However, it still is unclear how that episode might have read after-the-fact absent 9/11.

Kash -- The problem with the long and variable lag story is that is provides no guidance at all for determining when enough is enough. One of my main points is that, operating in real time, the central bank has to keep moving on with the program until the objective is cleearly met. That may mean that some amount of overshooting is inevitable, but I am suggesting that is not the worst outcome we can think of. In addition, when it comes to inflation expectations, I'm not convinced that the lags are so long.

On the M3 issue, I'm afraid that I don't have much to say beyond what I have said before -- I just don't believe it provides a reliable guide to the effective stance of monetary policy. It is interesting that the dominant view of those who do take it seriously is that monetary policy is too loose, not too tight.

Posted by: Dave Altig | February 02, 2006 at 07:31 AM

Dave, interesting. You've inspired a new suggestion: why not also subtract the 5-10% of cash that's hoarded in pillowcases & behind walls? Some time back I acknowledged & apologized for my ranting on this but I find microanalysis of this most important topic irrational & exasperating. Here's a little ditty from Shelley ("Prometheus Unbound") on irrational man:
"The good want power, but to weep barren tears.
The powerful goodness want: worse need for them.
The wise want love; and those who love want wisdom;
And all best things are thus confused with ill."
Have a great day.

Posted by: bailey | February 02, 2006 at 09:56 AM

I would not complain. Given the quality of data and the variety of theoretical economic frameworks that the Federal Reserve has to consider, you have to recognize that managing monetary policy is by nature inexact.

Posted by: Scott Peterson | February 02, 2006 at 03:38 PM

I suspect an exercise in which we look at one possible outcome and ask "how would we like that?" is naive relative to what the Fed would be doing at the same time. Pitching the mid-1990s rather than the early 1990s for consideration misses the point that Fed officials have been making. They'd do both. We should assess the likelihood that a particular policy stance today will generate growth that is too slow, inflation that is too fast, and compare that to likelihoods under other policy stances. Add in the potential for undoing either form of mistake once it is recognized. This is the Greenspan/Rubin risk-assessment approach to policy that we are told is in vogue at the Fed. We should be looking at the universe of likely outcomes, rather than admiring just the one possible outcome which justifies a particular policy stance.

Posted by: kharris | February 03, 2006 at 12:54 PM

kharris -- I think that was the point I was making. I interpret the mid-1990s as episode as one in which the FOMC responded aggressively to contain the first whiffs of a build-up in inflation expectations. My point was even that arguably had some costs in the short-run, in retrospect it looks like a lesson in success. It does not, of course, always work out so neatly (see 2000-2001). But, just speaking for myself, it was a pretty convincing suggestion that there is a lot of wisdom in erring on the side of caution with respect to inflationary pressures.

Posted by: Dave Altig | February 04, 2006 at 09:36 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 30, 2006

Holding on to the Edge of Comfort

Macroblog Readers: Dave has offered me another opportunity to talk about the inflation numbers.  Remember, you can't infer that these views represent him, the Cleveland Fed, or the Federal Reserve Board of Governors.  Mike Bryan


Today’s PCE inflation report for December seems to have gotten a ho-hum response in financial markets.  As it should.  The data were tame and not widely off expectations.  Besides, with only minimal error anyone with a pocket calculator should have been able to guess this monthly number from the fourth quarter GDP data reported last Friday. 

The inflation trend, as measured by the PCE, seems to be skirting just below two percent, the upper bound of what one FOMC member, Janet Yellen, is reported to have called her “comfort zone” for the inflation measure (one percent to two percent.)  The trimmed-mean PCE price measure produced by the Dallas Fed is running a bit higher (2.2 percent over the past twelve months), but like the more traditional core, is holding relatively steady in the face of soaring energy costs earlier in the year.


Tomorrow the monetary policy committee meets to discuss these and other numbers that gauge the health and inflationary propensity of our economy and to say goodbye to one of the worst friends inflation ever had—Alan Greenspan.  When he took the helm of the FOMC in August 1987, core PCE inflation was running around 3 ¾ percent.  In the early 1990’s, the inflation trend was reduced further—to around 2 percent—and has since shown little inclination to deviate from that lower trend.  In fact, if you insist on some science, my colleague Pat Higgins ran a statistical test of the available core PCE data this morning and was unable to identify a clear structural break in them since April, 1992.  In other words, the core PCE seems to have been anchored to a 1.9 percent trend for 14 years now—a record that seems all the more remarkable given the rough terrain the economy has traversed since 1992. 

But maybe it isn’t so remarkable.  Maybe the relatively steady inflation path we have followed gave the institution an extra tool—an added flexibility that it could use to help the economy through that rough terrain.  With this flexibility, it could respond to economic exigencies without sacrificing its credibility to deliver on low inflation.  Let me put it this way: “[T]hrough two decades of effort the Fed has restored its credibility for maintaining low and stable inflation, which--as theory suggests--has had the important benefit of increasing the institution's ability to respond to shocks to the real economy…without any apparent adverse effect on inflation expectations.”  OK, those aren’t my words.  Those are the comments of former Fed Governor and apparent incoming Fed Chair, Ben Bernanke.  I only wish I had said them.

January 30, 2006 | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference Holding on to the Edge of Comfort:


a tremendous record on inflation, especially to
those of us that are old enough to remember the late seventies.

my thought is that we have record energy prices and low inflation. hard commodities are at record prices, yet we have no inflation. is productivity that good? is the china and india labor effect that strong? when does it stop?

Posted by: jeff | January 30, 2006 at 09:42 PM

In 2005, PCE accelerated to 2.2% with lower priced oil supply contracts already in place from 2004.

Results of $50, $60 and $70 oil have not yet been washed out of the system due to latencies.

In 2006, oil should range from $50 - 75 per barrel for the whole year.

This year there is no "grace period", contracts will be at the higher price for the whole year.

Result, PPI up, CPI up, and PCE up including the CORE as these energy costs will have permeated the supply chain. (Witness food items in December.)

What will Ben do with the Stagflation?

Posted by: The Nattering Naybob | January 31, 2006 at 12:01 AM


Was the PCE calculated all through this time period the same way? Or has it like the CPI been progressively fudged and adjusted downwards by new "improved measurements". I'd find all the arguments about inflation being low and stable more convincing if the inflation indicators were calculated consistently using the same methodology over time.

Posted by: Cynic | January 31, 2006 at 01:59 AM

Thank goodness there is no inflation;

Considering how everything has been going up in price -- Food, energy, industrial metals, construction materials, crude oil, health care, medical insurance, precious metals, education costs, gasoline, housing costs, wood, natural gas -- if there were any inflation, we would be in real trouble!!!

Posted by: Barry Ritholtz | February 01, 2006 at 04:43 PM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

GDP Tanked... And Nobody Cared

The remarkable thing about the [take your pick: lackluster, weak, stinky] fourth quarter GDP report was how little impact it had on market sentiment.  One widely shared explanation is this one, from Forbes:

U.S. stocks ended higher Friday, wrapping up a solid week of gains for the market after strong earnings reports...

The market also received support from a gross domestic product report showing the U.S. economy slowing more than expected in the fourth quarter. The data raised hopes among some investors that the Federal Reserve may end its string of interest-rate hikes sooner rather than later.

If that is really true, then "later" must have extended at least past the March FOMC meeting.  The  probabilities for different FOMC decisions, estimated as always from the market for options on fed funds futures, moved in, let's say, interesting ways.  Phone in tomorrow...



... and feel pretty confident about another 25 basis points in March:



This week we add new estimates for the May meeting.  If you are waiting for a pause, the odds at the moment say see you then:


For the cognoscenti, the May probabilities were estimated using the techniques required for dealing with joint FOMC meetings described in Carlson, Craig, and Melick (2005).  If you are in the group that might care about that, you might be in the group that likes to see the data as well:

Download Imp_pdf_slides_for_blog_012706.ppt

Download implied_pdf_january_012706.xls

Download implied_pdf_march_012706.xls

Download implied_pdf_may_012706.xls

January 30, 2006 in Fed Funds Futures | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference GDP Tanked... And Nobody Cared:

» Standard Federal Bank from Standard Federal Bank
. STANDARD FEDERAL BANK reports earnings for the quarter and 6 months, respectively, and $10,964,000 for the p... [Read More]

Tracked on Feb 22, 2006 5:49:43 AM


Maybe by quick Excel work doesn't pass a t- or F-test, but...

Using the PCE spreadsheet you linked, the '97-05 mean error of GDP_Final minus GDP_Advance is 0.22% with a std dev of 0.64%. To get revised back to the Wall Street consensus number of 2.8%, we need a revision (2.8-1.1)/.64 = 2.65 standard deviations!

Even if we get a higher number on 2/28, when the preliminary GDP figure is published, the mean error is just 0.22%.

Even after tracking GDP with the stock market by throwing out the 200Q4-2002Q3 points by saying "yes, we know we're in recession, we don't care about the GDP revisions" only lowers the mean error by 2 bp and standard deviation by 10 bp.

I believe the economy doesn't re-accelerate on its own. So barring a rate *cut* or bigger fiscal stimulus (and maybe Katrina recovery will be just that), the best growth quarters of this recovery are definitively behind us. Recession could be years away, but barring an infiltration of the core PCE by oil price increase gremlins, I expect the yield curve to remain relatively flat.

Posted by: American Bond Investor | January 30, 2006 at 04:22 PM

If autos had held steady Q4, rather than plunging, the GDP number is probably around 3.0 - 3.5%.

If auto rebounds Q1 to equal Q3, will that constitute an inflationary fear?

Posted by: The Nattering Naybob | January 30, 2006 at 11:51 PM

ABI -- It is true, I think, that part of the surprise in the 4th quarter represented a slower Katrina/Rita bounce back that was expected. That has given some a bit of optimism about early next year.

NN -- If we had received the news that GDP expanded at 3.5 percent or so, I doubt anyone would have become overly concerned about inflationary pressures. However, you probably would have heard more about resource utilization pressing at the limits than you are likely to now.

Posted by: Dave Altig | February 02, 2006 at 07:38 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

One Reason To Actually Worry About A Flat Yield Curve

From the Wall Street Journal (page C1 of the print edition):

For almost a year, the flat Treasury yield curve loomed on the horizon.

Bankers could see it coming. They had time to plan, knowing that the narrowing spread between short- and long-term interest rates squeezes their profits.

But the flattening yield curve has stymied even some of the most sophisticated and well-equipped banks in the U.S.

The nation's three biggest banks-- Citigroup Inc., Bank of America Corp. and J.P. Morgan Chase & Co. -- were expected by many analysts to move past the flat yield curve in 2005 and beyond without sustaining significant damage to their bottom lines.

But all three -- like many smaller brethren in the financial-services industry -- posted disappointing results for the fourth quarter, and investors punished their share prices. Each cited the flat yield curve as a contributing factor, an obstacle many bankers and bond traders see in place until at least midyear...

The difference between the shorter- and longer-term rates affects not only a bank's core business of collecting deposits with a relatively low rate paid to customers and lending out that money at a higher rate. The net profit that banks, especially the bigger ones, can make from their credit-card operations and their currency, securities and other financial trading also is affected.

Banks unable to raise all the money they need to lend or conduct trades must borrow money on a short-term basis. They attempt to make more money by lending it out at a higher rate or investing it in better-yielding longer-term securities. But with the long-term and short-term interest rates about the same, that is a much less-profitable exercise.

Our friend Brad Setser says it well:

"There is a very flat yield curve globally for different reasons, even in some emerging markets," said Brad Setser, head of global research for the Roubini Global Economics Monitor, a New York-based economics Web site. "I really don't see where the easy money is. No matter how sophisticated you are, you can't get away from the basics of banking: Borrow short, lend long," he said.

If you are an optimist, this is for you:

... analysts are cautiously optimistic about 2006 when it comes to the yield curve's impact on the big banks' performance. "The bulk of the damage has been done," said [Jeff Harte, a Chicago-based banking analyst at Sandler O'Neill]. "The question is when does it get better?"

Sounds like the reaction to the last GDP report.

January 30, 2006 in Interest Rates | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference One Reason To Actually Worry About A Flat Yield Curve:


There's a disconnect somewhere. While the borrow-short-lend-long business model built our banking system, some economist somewhere might do well to investigate whether this is still the case. The current model seems to me more like, borrow-low-lend-high. I would think if banks have been unable to raise all the money they want to lend, they would pay higher interest rates. Has anyone but me noticed what banks have been paying their savings account customers, those ones insured by FDIC? Isn't it possible the repeal of Glass-Stegall changed the way banks do business? Think about it. How much of bank profits these days come from credit card divisions. My banks try to push me to invest with their investment arms, outside FDIC. They, then invest (gamble) my money, in Ford Motor Credit & GMAC, taking a pass-through point or two right off the top. If I choose to invest in an FDIC backed savings account, they'll pay me a whopping interest rate of 1% while making car loans at 7%. When in the history of modern banking has the spread between borrowing & lending rates been so wide?

Posted by: bailey | January 30, 2006 at 10:52 AM

Is anybody aware of any studies on the structure of banks assets and profits. It would be interesting to see how much is floating, mortgages, autos, trading, etc.

Posted by: cb | January 30, 2006 at 01:27 PM

i recall reading recently that 2/3 to 70% of bank profits are now mtg. related & that that's a huge shift. I'd like to extend your question to bank risk. What's their risk exposure to various sectors?

Posted by: bailey | January 30, 2006 at 03:28 PM

Feb 2, 2000 yield curve inverts, 0il at $12 a barrel, a massive equities bubble and new economy dependent on "tech".

5 weeks later March 10, 2000, tech equities bubble pops and the "new economy" tanks.

Dec 27, 2005 yield curve inverts. Oil at $68 a barrel, a massive real estate bubble and global economy dependent on US consumer spending.

5 weeks later, tomorrow January 31, 2006.

Deja Vu all over again? Lets wait and see its TBD in the next 5 weeks.


Posted by: The Nattering Naybob | January 31, 2006 at 12:10 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 29, 2006

Fourth Quarter GDP: Read It And Weep

There was plenty to be said about Friday's advance release of 4th quarter GDP growth, and you can bet that it was said by someone. John Irons proposed that the news was "not very good."  SCSU Scholars concurred: It "ain't good."  The Skeptical Speculator described the outcome as "weak."  Andrew Samwick offered the phrase "lackluster."  William Polley weighed in with "disappointing." Brad DeLong noticed "lots of bad news." Jim Hamilton put the statistics in the "gloomy" category.  Kash called it a "terrible report."  BizzyBlog: "It stinks." And Barry Ritholtz thinks it is "amazing" that folks haven't figured out that -- this is his assessment -- the economic slowdown is "obvious not just in hindsight but for the past 6 months (at least)".

The Big Picture also has the Wall Street Journal's parade of punditry. Though there were exceptions, the general reaction was pretty sanguine, with the majority of commentators suggesting significant bounce back in the current quarter.  Tim Iacono noted that John Snow shares that majority opinion.  But Michael Shedlock asks "Exactly what data are you looking at Mr. Snow?"  Gerald Prante suggests one possibility, focusing on possible distortions in both the third quarter and fourth quarter stats, courtesy of the continuing aftermath of Katrina and Rita (a possibility also suggested by Andrew Samwick).  Brad Setser hopes the optimists "are not banking on a mirage" (of accelerating export growth, in particular).

For my money, it was a pretty disturbing, pretty confusing, even if ultimately inconclusive report.  The Capital Spectator identified what was on my mind:

The question is whether the advance GDP report constitutes reality, a line of inquiry that's found much attention today in the wake of the economic news. Knowing full well that each and every GDP report is revised, some are holding out the hope that today's 1.1% fourth-quarter rise will evolve into something more encouraging when the government dispenses the so-called preliminary report and then the final one.

Mark Thoma takes a look at the record, although he constructs the comparison the hard way, by examining archived vintage data sets (about which he expressed some skepticism).  Here's the record, directly from the Bureau of Economic Analysis.






Here's a close-up look of the past few years:




Even if the final estimate for the fourth quarter past matches the largest of these errors -- the upward revision in the third quarter of 2003 - we would end up at just 2% annualized growth for the quarter, still well below expectations.  The average positive error of about 0.54 percentage points would be well below that.  And, as noted by Jim Hamilton in his Econbrowser post, the fact that inventory growth was actually a positive in the latest report makes a positive revision far from certain.

In his post on the topic of the day, William Polley revealed that he "expect[s] that there might be a small revision upward in the next month or two."  The record suggests we shouldn't hope for too much more.

Related odds and ends:  General Glut claims we are seeing  the beginning of the end of the debt-driven consumption boom.  Menzie Chinn sees the beginning of the beginning of the much anticipated U.S. current account reversal.  The Nattering Naybob opines on why the market seemed to take the GDP report so well: "The slow down in Q4 GDP calmed inflation fears and sent the market on a tear."

A nice article on GDP revisions is Dennis Fixler and Bruce Grimm's aptly titled "Reliability of the NIPA Estimates of U.S. Economic Activity," which appeared in the February 2005 issue of the BEA's Survey of Current Business (brought to my attention and yours courtesy of the candle-burning Shadya Yazback).

UPDATE: Here, for the interested, is the data for the pictures above.  The file also includes the latest revisions for each quarter, as well as the record of revisions for the components of GDP:
Download GDP_quarterly_revisions_no_macros-1.xls

The original data can be found here.

January 29, 2006 | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference Fourth Quarter GDP: Read It And Weep:


I was not surprised.

Posted by: anon | January 29, 2006 at 09:16 PM

The key is whare the GDP growth was coming from in the prior quarters -- the big spike in Q3 2003 was the massive tax cuts, and since then, the steady 3-4% GDP numbers have been driven primarily by home equity extraction.

As that slows, so too will the economy . . .

Posted by: Barry Ritholtz | January 29, 2006 at 10:22 PM

Looking at that first graph it appears that final numbers were often higher during strong/accelerating growth and lower during weak/decelerating growth.

Posted by: iasius | January 30, 2006 at 04:45 AM

Just fiddled around a bit with the data and there's an interesting pattern.
When growth decelerates (gdp growth is lower than the previous quarter) there are about as many positive as negative revisions.
However when growth accelerates there are almost no negative revisions.

If I were a betting man, I'd stay away from this one.

Accelerating growth: 13 positive revisions, 2 negative.
Decelerating: 8 positive, 9 negative revisions.

Posted by: iasius | January 30, 2006 at 05:16 AM

I took a look at the data from the first quarter of 1997. While I realize that this is a small sample, I found interesting that the GDP advanced 50% of the time from quarter to quarter. Also, if I am correct, when the advance GDP was up on a quarterly basis, the final data was higher than the preliminary 65% of the time.

Posted by: SamK | January 30, 2006 at 08:59 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 25, 2006

Hard Landing? Still Waiting

Calculated Risk samples Brad Setser:

Thomas Palley is right: "Foreign flight" (a shock to the United States ability to borrow savings from abroad) is very different from "Consumer burnout" (a slowdown in US demand growth). In both the foreign flight and the consumer burnout scenarios, the US economy slows and the dollar falls. But in the foreign flight scenario, as Palley notes, the fall in the dollar and rise in US (market) interest rates triggers the US slowdown, while in the consumer burnout scenario, the US slump triggers dollar weakness. Foreign flight would combine dollar weakness with higher US (market) interest rates, consumer burnout combines dollar weakness with lower interest rates.

This morning's news brings this observation on the "consumer burnout" front, from Bloomberg...

Sales of previously owned homes fell in December for a third straight month, evidence that housing demand was starting to falter at the end of a record year, economists said before a private report today.         

Sales of existing homes fell to a 6.87 million annual pace last month, the slowest since March, from 6.97 million in November, according to the median of 59 forecasts in a Bloomberg News survey. Sales haven't fallen for three straight months since 2002. They are down from a record 7.35 million rate in June.         

Higher home prices and borrowing costs will curtail demand this year after home sales reached a fifth straight record in 2005, according to real estate industry forecasts.

... and this on the "foreign flight" business, from MarketWatch:

Treasury prices closed at their lows Tuesday, keeping yields higher, after lukewarm response to an auction of 20-year Treasury Inflation-Protected Securities re-inforced worries that there is not enough demand for this month's heavy fixed-income supply...

The weak response played into fears that an exceptionally plentiful amount of government and corporate bonds issuance this month is weakening demand and driving up borrowing costs.

On the bright side though, a full 56.1% of the bids came from indirect bidders, a category that includes foreign central banks. That result should help soothe concerns that foreigners may be backing away from U.S. assets.

Place your bets.

January 25, 2006 in Data Releases, Housing | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference Hard Landing? Still Waiting:


i got my bets placed. i am pretty much 100% in stocks. and i was more than 50% out of stocks around 2000-2001.

stocks in the U.S. will go up this year.

Posted by: anon | January 25, 2006 at 05:17 PM

I've been about 45% gold and silver and 40% oil since 2001.

Thank heaven. It's been a very, very good run.

And the dollar adjustment hasn't even begun yet.

Posted by: RN | January 25, 2006 at 10:42 PM

Who knows? It would be easier if we knew what hedge funds are doing. For instance, how much of last year's 10 year note issuance was bought by offshore hedge funds?

Posted by: bailey | January 26, 2006 at 11:30 AM

Think it is interesting to note that yields on 10 year bund futures are rising too. (short term trading asof last few days)

Ironically, when the Fed is done, the futures will break (finally) I would be long S+P, and short the treasuries.

Posted by: jeff | January 27, 2006 at 04:51 PM

Maybe I'm crazy but the law of supply and demand leads me to put my bet on the next conundrum - a recession accompanied by rising or stubbornly high long term rates. Here's the scenario - consumer burnout leads to recession which includes a decrease in demand for imports. Recession leads to an increase in the budget deficit and an increase in Treasury issuance. Decreasing demand for imports leads to a reduction in the dollars flowing into central banks that are recycled into Treasuries. Rinse and repeat. Increased supply, reduced demand = lower prices = higher rates.

Posted by: mark | January 28, 2006 at 09:52 AM

Not that anyone should care but I'm 100% in Ford Interest Advantage notes (checking & wiring priv. (get your funds back in about 2 hours), adjusts weekly & oh yeah, it's yielding 5 1/4 & outperformed the s&p500 last year. Folks, thanks to the last 5 years fiscal mismanagement of our past, our present & our current President we're facing some $80 TRILLION liabilities. Our entile GDP is less than $12 Trillion, & I'd guess our federal budget is some $2.3 Trillion. What are we thinking, people? Have you read Max Sawicky's synopsis of our recent growth? "The upshot is that the triumph of Republican-conservatarian economic policy consists of an expansion of government jobs financed by loans from the Communist People's Republic of China."
Remember the old sage advice, it's okay to be right & it's okay to be wrong, just don't be stupid.

Posted by: bailey | January 28, 2006 at 11:27 AM


Feb 7, 8 and 9 will tell the tale, especially the new 30 year auction. If fact this quarter the U.S. government expects to borrow a record net $188 billion.


Posted by: The Nattering Naybob | January 31, 2006 at 12:15 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

New Europe Flexes Its Muscles

From the Financial Times:

The European Union’s sales tax system was thrown into chaos on Tuesday night when three new EU members blocked a deal letting countries apply lower VAT rates to building work and other services.

Unless Poland, the Czech Republic and Cyprus lift their veto by the end of the week, the European Commission says it will take legal action against any country which continues to apply the reduced rates.

The details of the disagreement seem pretty straightforward...

European countries have to apply a minimum 15 per cent VAT rate under EU single market rules, but operate an experiment of reduced rates on a list of five “labour intensive services”. That experiment legally expired on December 31...

Poland, the Czech Republic and Cyprus all wanted to have permission to continue levying reduced VAT rates on a range of items after 2007, when transitional arrangements following their accession in 2004 end.

The list of items included construction work on new and old homes, children’s books and food.

But “old” member states, led by Germany, Sweden and Denmark, demanded the list of items eligible for reduced VAT rates stay as limited as possible, and refused to reopen the terms of the accession treaties of the new members.

... but the economics beneath the dispute may be a little less clear.  From the Wall Street Journal:

In theory, the cuts are designed to stimulate consumption, and in particular increase jobs in labor-intensive fields. Without yesterday's accord, construction companies would have raised prices by 15%. UEAPME, a small-business association, estimated that the end of the exemptions would drive much business underground and cause as many as 200,000 job losses.

Economists question the figure and say the impact would have been minimal. Little evidence exists that low taxes lead to creation of jobs, says Silvia Pepino, an economist with J.P. Morgan in London.

Other economists also see a danger of hodgepodge exemptions, with some sectors receiving preference over others. "The more holes, the more distortions you create," says Susana Garcia-Cervero, an economist at Deutsche Bank in London.

Whatever any of this may mean about the balance of power in the EU, the sentiment of Ms. Garcia-Cervero seems about right to me.

UPDATE: Meanwhile, here's some good economic news from Old Europe.

January 25, 2006 in Europe | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference New Europe Flexes Its Muscles:


Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 23, 2006

Fed Funds Expectations On Hold

There was plenty of commentary last week from the members of the Federal Open Market Committee, duly covered at Economists View (herehere, and here), at The Housing Bubble 2, by The Capital Spectator, and at Angry Bear, among others that I'm sure are out there.  No matter.  All that talking didn't much budge the latest batch of estimates of market bets being placed on the next few federal funds rate decisions.  Here's the story, short and sweet:




Here's the data, suitable for framing:
Download Imp_pdf_slides_for_blog_012006.ppt
Download implied_pdf_january_012006.xls
Download implied_pdf_march_012006.xls

UPDATE: John Berry endorses the market view.

January 23, 2006 in Fed Funds Futures, Federal Reserve and Monetary Policy | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference Fed Funds Expectations On Hold:


So it would be a real big surprise if rates do not go to 4.5%.

Have there ever been similar surprises before? When? What happened?

Posted by: nate | January 24, 2006 at 07:27 PM

nate -- I'm going on memory only here, but my recollection is that there was a pretty good splash in June 2003 when the market was expecting a 50 basis point cut and got a 25 basis point cut (which was the one that took us to 1 percent where we stayed for a considerable period of time).

Posted by: Dave Altig | January 27, 2006 at 01:43 PM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 22, 2006

We Are Richer, Therefore We Spend (On Health Care)

Angry Bear apparently never sleeps, and to prove it Kash Mansori has an interesting post on medical care spending (posted at 4:15 AM Saturday morning!).  A few highlights:

It should come as no surprise to anyone that, partly as a result of a persistently higher-than-average rate of inflation in medical care, consumers have been spending a larger and larger fraction of their income on medical care...

... [Bureau of Economic Analysis] data attributes much of this increase in health care's budget share to an increase in real medical care spending, not to inflation. In other words, the rapid advances in health care spending during the 2000s are largely due to the fact that individuals are consuming more health care, according to the BEA...

A few weeks ago I suggested that higher spending may be associated with declines in the effective cost of medical care, by which I mean costs inclusive of factors such as pain, probability of complications, and recovery time.  Implicitly I was suggesting that we overestimate the price of medical services, a possibility Kash notes in his post.

Economists Charles Jones and Robert Hall have another explanation: Rising shares of expenditure on medical care is the natural outcome of becoming ever wealthier.  From their abstract:

  Health care extends life. Over the past half century, Americans spent   a rising share of total economic resources on health and enjoyed   substantially longer lives as a result. Debate on health policy often   focuses on limiting the growth of health spending. We investigate an   issue central to this debate: Is the growth of health spending the   rational response to changing economic conditions---notably the growth   of income per person? We develop a model based on standard economic   assumptions and argue that this is indeed the case. Standard   preferences---of the kind used widely in economics to study   consumption, asset pricing, and labor supply---imply that health   spending is a superior good with an income elasticity well above one.... In   projections based on the quantitative analysis of our model, the   optimal health share of spending seems likely to exceed 30 percent by   the middle of the century.

Kash has it just right when he says

... what is underlying dramatic change in medical care spending of the past few years. .. [is clearly] an important question, because it plays a crucial role in understanding whether the rapid rise in people's spending on health care in recent years is a good thing or bad.

As of now, I'm in the good thing camp.

January 22, 2006 in Health Care | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference We Are Richer, Therefore We Spend (On Health Care):


That begs the question of why isn't there more out there that we value enough to invest in and spend on.

Posted by: Lord | January 23, 2006 at 01:16 PM

If health care has an income elasticity greater than one, all this talk about spending too much on health care strikes me as misdirected. Of course, the fact that income distribution is getting more skewed over time raises some interesting distributional issues. But even Milton Friedman would argue that the U.S. health care market is inefficient. Inefficiency can exist even when the share of income accruing to the product is low - whereas an efficient market could command a large portion of one expenditure if that product is in high demand, which is your point.

Posted by: pgl | January 23, 2006 at 05:42 PM

Lord -- Agreed, but that wasn't really the question I was thinking about.

pgl -- Agreed as well. In my couple of posts on this topic I haven't meant to imply the absence of things to fix regarding how health care is delivered in this country. But I do think this notion of rising expneditures related to both price and income elasticity captures a very significant element of truth. Would we both agree that the big goal is allocative efficiency, not expenditure reduction?

Posted by: Dave Altig | January 24, 2006 at 09:33 AM

David - agreed. Also check out the latest from Arnold Kling, which was so brilliant (or was that humorous) that I had to post on it. Short version - health care has to be a Giffin good to accept the White House logic for its own proposal.

Posted by: pgl | January 25, 2006 at 07:44 PM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

January 21, 2006

Money And The Stock Market

In my previous post I highlighted an article from MarketWatch that included this conclusion:

... changes in M1, M2 and M3 are "next to useless" as [stock] market timing indicators.

Spencer England (of Spencer England's Equity Review) says not so fast, and sends me this graph of the S&P price-to-earnings ratio and the growth rate of real money balances measured, by Zero Maturity Money (MZM):

OK -- I'm impressed, but I'm not sure what to make of it.  The savvy folk rush to liquidity when the P/E ratio moves north?  Spurious correlation (because both series are positively related to the overall level of economic activity)?  Any suggestions?

January 21, 2006 in Federal Reserve and Monetary Policy | Permalink


TrackBack URL for this entry:

Listed below are links to blogs that reference Money And The Stock Market:


I would say it is spurious. Kind of akin to trying to correlate different kinds of baseball statistics. How do you explain the sideways trade in stocks since 2004, with the huge build up in cash in mutual funds? Just because it looks like a duck doesn't mean its a duck in this case.

Posted by: jeff | January 21, 2006 at 07:39 PM

I don't get it. Is it saying that the MZM/PCE can be infinity when PCE is zero? Huh?

Posted by: nobody | January 21, 2006 at 11:20 PM

Money And The Stock Market: Interesting post. But ... While it seems that there is a correlation between the S&P price-to-earnings ratio and the growth rate of real money balances measured, this doesn't tellmuch about the direction of the market. The P/E ratio is a (by definition) a ratio and can move up or down because of increases/decreases in the numberator, the price or increases/decreases in the denominator, earnings. For example, in most recent history, the P/E ratio of the S&P-500 has been trending down, while the index itself has been moving up.

Posted by: SamK | January 22, 2006 at 02:12 PM

nobody -- The basic answer to your question is yes: If the price level is very small, real money balances will be very large. This actually makes perfect sense. The price level -- here measured by the PCE index -- is the number of units of the market basket that you can purchase with $1. So the nominal stock of money divided by the price level is the purchasing power of money. If P is very small, that purchasing power is quite large.

SamK -- Good point. But in Spencer's defense, my understanding is that in the past adjustments in the P/E ratio have been dominated by changes in P. If I am wrong about that, I'm sure someone will tell me.

Posted by: Dave Altig | January 22, 2006 at 10:48 PM

How about this: Later in a business cycle, as the money supply is being tightened, excess liquidity gets used in other things besides working to expand P/E multiples. When earnings are bad but money supply is on the rise, that excess liquidity becomes risk seeking and gravitates to equity investment. I'm sure there is a fairly large behavioral element to this chart that would be hard to quantify, but doesn't take away from the chart's helpfulness.

Posted by: John Bott | January 23, 2006 at 08:15 AM

While everyone talks about the strong correlation between the stock market and earnings you never hear that the correlation between the change in the stock market and the change in earnings is essentially zero. Even if you have perfect knowledge of the future change in earnings it is of no help in telling you what the market will do.

On the other hand the correlation between the change in the market PE and the change in the market is about 0.9. so if you can correctly forecast the direction of change in the market PE you have about a 90% probability of being right on the direction of the market.

On average, since WW II in bear markets the PE falls about one third while earnings actually rise. In the first year of a new bull market this reverses as the PE rises by about a third and earnings actually fall by a small ammount.

Posted by: spencer | January 23, 2006 at 10:42 AM

jeff -- no I am just defining how I calculate real mzm by using the PCE deflator rather then the CPI or PPI.

Also the recent sideways market has been the product of strongly rising earings and falling PEs -- they have been in rough balance

john bott -- you are very much on the right track

Posted by: spencer | January 23, 2006 at 10:48 AM

Post a comment

Comments are moderated and will not appear until the moderator has approved them.

If you have a TypeKey or TypePad account, please Sign in

Google Search

Recent Posts



Powered by TypePad