January 12, 2009
CEA Chair Lazear on the Economy
From Washington Post:
"It does look like a great eight years, aside from the last quarter, unfortunately," Edward P. Lazear, chairman of Bush's Council of Economic Advisers, said in a recent interview. "In the long term, things look good. The reason things look good is this economy will rebound, and it will rebound strongly. . . . We expect things to turn around, and I would say early in President Obama's administration."
Posted by Menzie Chinn at January 12, 2009 04:13 PMdigg this | reddit
It does look like a great eight years, aside from the part where the problems we were ignoring or exacerbating blew up in our face.
Posted by: modgen at January 12, 2009 04:42 PM
Except for the fact that he presided over our nation sliding into economic ruin, appears to have taken our image around the world to new lows, and bungled seemingly everything he tried, W had a great presidency.
Posted by: kozanack at January 12, 2009 05:37 PM
It's the weakest leadership of modern times, read the Post link!
Posted by: BLOGDE at January 12, 2009 05:39 PM
This must be the perspective from the guys at the top who can afford to pick stocks for a living.
The US industrial base hasn't been this small since 1929.
Posted by: Mike99 at January 12, 2009 06:44 PM
I am quite worried about the looming pension implosion. That is the next shoe to drop.
The housing correction is mostly behind us, but the pension correction will be just as bad, if not worse.
Posted by: GK at January 12, 2009 06:50 PM
George W. Bush brought democracy to Iraq, saved America from crisis after 9/11 and the dot-com crash, and undid the huge damage to America's security done during the Clinton years.
The fact that low-IQ leftists don't like him is itself a litmus test of his success (although, there isn't really such a thing as a high-IQ leftist).
Posted by: GK at January 12, 2009 06:52 PM
For the record, the Minneapolis Fed compares the depth of the current recession to prior post-war recessions after the same period of time.
It ranks the current recession by change in employment as "median", and by change in output as "mildest".
So it's not the end of the world, nor Great Depression II, yet.
Posted by: Jim Glass at January 12, 2009 07:56 PM
Baghdad Bob is impressed.
Posted by: andy at January 12, 2009 08:17 PM
No comments about this post other than to say that the person making this predication, if he is right, will be one of the most prescient prognosticators today. (This is the long way of saying that I think he is wrong.)
However I am back from my trip and eager to know if I can learn anything from Menzie or any of the commenters after I wrote the final comment to Menzie's post, Stuff Happens
I realize that that particular discussion had gotten pretty long in the tooth. But this discussion is a continuation of it. This Bush economic advisor and perhaps the entire Bush economic team may well be in their own world. But if an administration, whether it be Clinton, Bush or Obama, has little influence on the state of the economy, then the harm resulting from their cluelessness will be minimal as well.
If all we want to do is snigger about what a bunch of dolts they are, then that too is harmless. But if the goal is to come up with a correct diagnosis of how we got to the economic state we are in today, then we should really knuckle down.
In my comments to Stuff Happens, I agreed with the BIS report that stated, "Admittedly, arguments about fundamentals can be adduced to support independently each of the above trends. However, in the spirit of Occam's razor, it is particularly notable that all of these patterns are also consistent with credit being freely available and having a low price.
"Finally, it is also a fact that spending patterns in a number of countries have deviated markedly from what had been longer-term trends. In the United States and a number of other major economies, household saving rates trended downwards to record low levels and were often associated with mounting current account deficits. By contrast, in China there has, equally unusually, been a massive increase in fixed investment. As with high asset prices, these patterns are consistent with a plentiful supply of cheap credit.
"Taken together, the above facts suggest that the difficulties in the subprime market were a trigger for, rather than a cause of, all the disruptive events that have followed. Moreover, these facts also suggest that the magnitude of the problems yet to be faced could be much greater than many now perceive. Finally, the dominant role played by rapid monetary and credit expansion in this explanation of events is also consistent with the recent rise of global inflation and, potentially, higher inflation expectations."
Menzie commented that he wasn't holding the Fed blameless but that the Bush factors were important as well. Important, perhaps, in that every gun murder has to have someone pulling the trigger. But we want to find out who loaded the gun.
My still unanswered question is how the Fed can create far too much money and not have the excess go into bad investments that blow up in our faces. Since the Fed creates reserves to be loaned out, I can't get past the notion that, one way or the other, banks would make bad loans with the excess money. The loans they made to prudent businesses would come back with interest, but the excess money would have to go to imprudent businesses somewhere. When these businesses went under, they would take the banking system down with them. In a globally linked economy, the result of massive loan writedowns would ricohet around the world one way or the other.
I am trying to understand what is wrong with the BIS' diagnosis. Because if they are right, then we had better rethink how we guard against future events like this. If we regulate the financial business up to the hilt and it turns out that the problem was mainly in the monetary policies of the independent Fed, we have accomplished little.
I didn't even vote for Bush and I certainly have no brief for him. But I think he should take heat for the things that the President really controls, like entitlements and defense policy, whereas the Fed should take heat for the things that it really controls, like money.
Posted by: colonelmoore at January 12, 2009 09:30 PM
colonelmoore: Welcome back. I think I'd have to write a book to fully answer your question. But, ask yourself, what countries proceeded furthest in terms of financial deregulation and securitization? And where has the ramifications of the financial collapse been concentrated? I'd say it's been the US and UK, in both cases. A bit reductionist, but suggestive. And the case more compelling when thinking about what further fraud is likely to be uncovered as this bout of Akerlof-Roemer "looting" fully unwinds.
By the way, freely flowing credit could arise from overleveraging arising from weakening capital requirements, as well as from lax monetary policy (and I don't think BoE monetary policy was considered overly loose...).
Sorry I can't be more comprehensive right now. Papers to revise and lecture notes to write before the semester's start...
Posted by: Menzie Chinn at January 12, 2009 10:29 PM
Bush "saved us from the dotcom crash." Huh? Last time I checked the NASDAQ was sitting around 1500, and has not been much above about 2500 since its crash in 2000. At its peak it was around 5200. This is a "save"?
Oh, but perhaps you mean that the recession that started shortly after he came into office was not very long or deep. OK. Fair enough, if you want to call that a "save."
And, of course, his saving us from the national security disasters of Clinton has been rather undercut by the word of Richard Clarke. So, when the Bushies came in, he and others told them that al Qaeda was the big problem that they would have to deal with. They dismissed this as so much Clinton presidency baloney and promptly got to work on that all important task of abrogating the ABM Treaty with Russia. And we also know that Bush completely ignored a direct CIA warning on August 6 about exactly the plot that hit us on 9/11.
So, tee hee, yourself.
Posted by: Barkley Rosser at January 12, 2009 10:45 PM
Thank you Menzie.
Quick question out of respect for your deadlines:
Did the US loosen bank capital requirements under the Bush Administration? I hadn't heard anything about that. When was the last lowering of capital requirements in the US?
By the way I am not so sure that the US is where the ramifications of the financial collapse are most concentrated or for that matter does it appear that the UK is the biggest hot spot for financial problems in Europe.
The sudden collapse of the Euro against the dollar was in large part due to the recognition that EU banks, whose lending was in fact increased by lowering capital requirements (as long as they had default insurance from the likes of AIG), were leveraged much higher than US banks and had made trillions of dollars worth of dollar loans to emerging market countries. These loans totaled 21% of the EU's GDP (40% in the case of Switzerland, 85% in the case of Austria). By the way, a lot of those loans were made in dollars, because the dollar was so plentiful.
Up until the BIS report, the EU denied having any serious problems and investors believed it. Only after investors started fleeing the Euro in a mad dash for dollars and yen did the EU acknowledge problems, but then the various Euro countries started pointing fingers at one another. Germany refused to bail out Greece. It's hard to see that the ramifications are concentrated here when countries in Europe have been having economic street riots.
Americans may simply be better at owning up to our problems earlier on than Europeans and so we got all the early press. Besides, it was the election silly season and that always means highlighting the perceived responsibility of the incumbents.
Posted by: colonelmoore at January 13, 2009 03:26 AM
Of course they think positive things. If you are at the bottom of a hole, the only way to go is up. Which looks pretty good from the bottom. My question is... Are we at the bottom yet?
Posted by: Ed at January 13, 2009 06:20 AM
In terms of the increase in money supply, I think the main stream media who warns that this is inflationary, are ignoring the drop in the velocity of money. Of course, the velocity of money is not as easy to observe or control as the money supply.
Those who blame securtization in and of itself place too little blame on bad or greedy choices by investors. MBS paying dividend yields of +10% do not need a "blackbox" warning from a credit rating agency. If it looks to good to be true, it probably is. Securitization can be very beneficial. One could argue it needs better regulation, but I am not convinced regulators can keep up.
National City, one of the largest issuers of subprime loans that was not a specialized mortgage REIT and was accountable to banking regulators was run by someone who had no idea what he was doing.
In 2005, at the hieght of subprime mania, what was the CEO of National City up to?
By the way, National City did not get TARP money and hence it is no owned by PNC.
Posted by: MikeR at January 13, 2009 06:23 AM
Since we are talking about Richard Clarke, lets discuss Sandy Burgler... oops, I mean Sandy Berger. He was accused of stealing national security documents. One "warning" from Clarke he tried to hide contained a hand written note in the margin of a document suggesting a precision missle strike against al qaeda. He wrote "No" in the margin because too many civilians might die. So no missle strike was launched and civilians did die. Unfortunately, they were above the 80th floor of the WTC.
In terms of Richard Clarke warning Bush. I warn my boss all the time of potential risks. It is called "CYA" only when the risk is serious do I force him to act. If he does not act, then I failed to adequately warn him.
Posted by: MikeR at January 13, 2009 06:34 AM
Jim Glass posted the link to the Minn. Fed. Any comments to their analysis, Menzie? I thought that they had a couple of graphs that looked like you might have done them (plotting counterfactuals against each other).
The Minn. Fed. seems to be the voice of reason in a sea of doom and gloom. This is not the first time that they've made news with an analysis showing things are not as bad as some make them out to be.
Posted by: Buzzcut at January 13, 2009 07:05 AM
MikeR: Re 9/11, I have nothing to add except read PDB of 8/6/2001.
Buzzcut: As I've noted on several occassions, comparing the most recent few quarters of any vintage against final revised (and re-revised) data is a hazardous venture. Same applies to employment data (pre-benchmark revision). That's why I also compared against the other NBER-focus series, industrial production, sales, and income less transfers -- which I noticed they did not plot. See .
colonelmoore: I was referring to the 2004 decision regarding appropriate capital ratios for investment banks. Interesting timing in the context of subsequent events....
Posted by: Menzie Chinn at January 13, 2009 08:17 AM
I think the "2004 decision regarding appropriate capital ratios for investment banks" is the strongest element of your regulation argument. I think the rationale was that their European competitors were allowed the same, but I'm in the camp that views any increase in credit unmatched to some sort of 'Real Bills' justification as suspect. So I agree with you that this was a serious mistake.
As for the concentration in the US & UK, I think the progression of the global recession will in time persuade you of the likelihood that what's going on is much, much bigger than US regulation.
And even now, you must admit that it is regulation of the rating agencies that bares the blame for their horrible behavior. Before regulation distorted who pays for their services, they were useful outfits.
Posted by: bryce at January 13, 2009 09:22 AM
A naive chuck might think that the US President controls defense policy, rather I would say that the military lobby control the President. And a President who intends to dance of the party line might risk to be killed in Dalles.
Well, Cheney and his boy George et al. pleased the military machine for sure providing enough playgrounds for them.
Blood is on their hands. God will cut them down.
Posted by: John Lee at January 13, 2009 09:26 AM
Minzie, I am not sure what you are trying to say with the PDB, but I certainly would agree that we should have done something about him sooner. The problem with premptive attacks, as we can see in Iraq, is that the future is hard to predict. How many lives would have been saved if Lincoln assasinated Robert E. Lee in 1861?
Posted by: MikeR at January 13, 2009 09:34 AM
Menzie, just noticed I mispelled your name. Sorry.
John Lee, God cuts us all down. Your fate will be the same as "Cheney and his boy George et al"
Posted by: MikeR at January 13, 2009 10:36 AM
Menzie, thank you for the answer.
One of the things that I have never been able to get past is this:
Investment banks were at the time not Fed member banks. I understood from talking with a Fed economist that the Fed is the only non-duplicative source of money. Since the Fed only loaned reserves to member banks, it seems to me that the only way to create more money than previously existed was for it to lower its policy interest rate, or to reduce reserve requirements for its member banks. Am I wrong?
Posted by: colonelmoore at January 13, 2009 11:47 AM
"Minzie, I am not sure what you are trying to say with the PDB, but I certainly would agree that we should have done something about him sooner."
How about escalating airline security? How about pinning down the locations of suspected Al Qaeda assets in the US? How about Bush taking his job seriously for once instead of jerking off in Crawford for a month?
The hijackers were already in the country. A military strike against Al Qaeda's Afghan activities in August, 2001 wouldn't have saved the WTC and Pentagon, so you're just blowing smoke and making excuses for the Bush administration's most dire dereliction of duty. It's really pretty pathetic.
Posted by: Jon H at January 13, 2009 12:29 PM
The Minneapolis Fed chart about recessions is a great example of misleading research.
Do any of you citing that report actually know what the lines representing the mildest and harshest recession are?
I bet you do not. But I warn you that they are completely artificial creations that have no relationship to any actual historic event.
Posted by: spencer at January 13, 2009 01:03 PM
Is the MN Fed a hotbed of wingnuttery or something?
Posted by: Jon H at January 13, 2009 01:46 PM
Colonelmoore & MikeR -
The smoking gun relative to the evaporation of wealth and the credit meltdown can, I believe, safely be traced back to the Bank of International Settlements (BIS). The Basel I & II accords, while they may have taken a very long time to be formally adopted by US government regulators, were afforded a wink and a nod as the credit derivative market grew exponentially. This allowing money center banks to off-load securitization liabilities thus reduce their reserve requirements. BIS rules allowed tier II and III assets to be used for reserves, while the credit rating agencies in Europe and America were paid-off to support investment-grade ratings on trances of junk-bond securities. International investment deals involving Eurodollars escaped bank reserve requirements altogether. Consequently, MZM or M3 grew from $4 Trillion in 1994 to about $14 Trillion today.
Politicians, businessmen, and greedy voters were all complicit in the hustle. It really didn't matter whether the credit gleaned from securitization was used for a productive purpose. All that was important, was that money and credit expanded exponentially, damn the future! The future is now, and yes, we and our children are damned to suffer for our avarice, despite the happy talk from Edward Lazear.
Posted by: MarkS at January 13, 2009 04:36 PM
To Menzie's response I would add that in real terms, investment cannot exceed saving. So, what we are talking about is either the effect of excess in saving or a misallocation of the saving. As Greenspan points out, the housing bubble was not limited to the U.S. Further, banks in countries that escaped the housing bubble also got into trouble lending to LDCs, as did U.S. banks when they intermediated the oil funds following the first OPEC squeezes of the 70's and 1980.
Posted by: don at January 13, 2009 04:37 PM
When you say investment cannot exceed savings, you are mistaken. That is the crux of the problem the world is now experiencing: huge amounts of "credit" were created & lent that no one ever saved. If indeed investment were limited to real savings, there would be no housing bubble nor an auto industry geared to produce 16 million autos when the sustainable demand is ~9 million.
Plentifulness of savings is a critical factor in determining the types of goods which can be profitably produced. The more savings, the more complicated-to-produce the goods can be.
Unfortunately, the reason d'etre of central banks seems to be to obscure the price that communicates the availability of savings, the market interest rate.
Posted by: Bryce at January 13, 2009 08:43 PM
Do any of you citing that report actually know what the lines representing the mildest and harshest recession are?
Obviously not, so please explain.
Posted by: Buzzcut at January 14, 2009 08:37 AM
Mildest, median and harshest recessions are defined for each month; the specific recession for each category changes over time. (See data table for specifics.
So the harshest recession is WAAAAAY harsher than any post-WW2 recession, and the mildest is way milder.
Posted by: Buzzcut at January 14, 2009 08:41 AM
I have trouble making sense of your comment. My observation was ex post, where the equality of saving and investment is an accounting identity.
Huge amounts of saving were generated in Japan and China, then later in oil-exporting countries. Just becasue the loans cannot be repaid does not mean that the real resources were never transferred.
Posted by: don at January 14, 2009 10:25 AM
Your succinct description of why the long-term business cycle (financial crisis) occurs was refreshingly lucid.
Posted by: MarkS at January 14, 2009 10:34 AM
don, I'm aware of the accounting identity. But when the central banks create credit, they & their dependent fractional reserve banks capture resources with newly created money that no one ever saved. (Indeed, they typically hurt people who are actually trying to save in conservative ways such as CDs.) Something is missing from the normal disussion of savings.
Posted by: Bryce at January 14, 2009 03:12 PM
Bryce - "But when the central banks create credit, they & their dependent fractional reserve banks capture resources with newly created money that no one ever saved."
That is impossible, but maybe we are arguing over symantics. Savers may not have intended to save, but save they did, perhaps forced by inflation that reduced the real purchasing power of their nominal income (as when the fed prints money and buys Treasury bills, they shift real resources to the government and force the corresponding private saving).
Posted by: don at January 14, 2009 03:43 PM
Well indeed, you are right. But such underhanded dishonesty bordering on theft is very different from voluntary saving.
A society that voluntarily saves is expressing much about their tastes. In example, they are expressing to entrepreneurs that they are willing to lend to said entrepreneur to produce relatively capital-intensive goods. Central banks in the inflationary process of forced saving (aka, stealing) are also misleading those entrepreneurs about the production structure that will be profitable. There is an enormous difference.
Pay attention to how China, who has force-saved with a vengence, fares in the next couple of years
Posted by: Bryce at January 14, 2009 06:35 PM
It appears we agree on the fundamentals. Indeed, I am paying attention to China, and fear the U.S. economy won't escape unscathed from the aftermath of the building imbalances.
Posted by: don at January 14, 2009 06:50 PM
Spencer, this one's for you.
I don't see how this graph is any better or worse than the one the Minn. Fed. posted. By any stretch of the imagination, for much of '08, this was a very mild recession, and the end of '08 was brutal. Overall, about average so far.
Posted by: Buzzcut at January 15, 2009 09:21 AM
I don't doubt that in retrospect there will be plenty to point fingers at. But my question, that so far no one has cleared up yet, is about the relative supply of money to play with. How did those Eurodollars get where they got? Eurodollars or American dollars it is all one pool of US dollars. If the Fed were draining the pond of excess money, then our currency overall would become dear and people would prefer to hold money rather than assets. The Fed's failure to do so after the economy rebounded, allowed speculative investment based on assets of various kinds to continue to be profitable.
Unless I am failing to understand something very basic, investors are very sensitive to the direction of money supply. That is why the maxim, "Don't fight the Fed," is taken as Gospel. The Fed raising interest rates with the intention of draining the money pond is a clear signal to the world that the days of rapid asset appreciation (which only means the days of rapid money depreciation) are over. Thus the flow of funds into those assets will dry up as sure as night follows day.
Until someone explains to me why this is not so, it is going to continue to bug me and all of the explanations that point to deregulation as the cause will fail to satisfy me.
Posted by: colonelmoore at January 15, 2009 10:54 AM
I agree with colonelmoore, though perhaps my mechanism is a bit different - I don't necessarily agree that the fed is the main culprit, although it certainly played the role of 'enabler.' Deregulation just contributed to the particular bad loans made. Other countries also experienced bad loans (as noted in my comment above).
I would put at least part of the blame on the yen carry trade (over-encouraged by the implicit guarantee of currency intervention) and outright official intervention in other Asian countries, particularly China, which artificially spurred saving and contributed to too much debt (the counterpart of too much saving). Treasury is partly responsible for this, by failing to brand China a currency manipulator and by backing away from discouraging Japan from intervening in currency markets (a result of 300 noncombat troops that Koizumi posted in Iraq, against widespread domestic opposition in Japan). Currency interventions have amounted to over $4 trillion, which corresponds to a lot of artificially encouraged loans.
Posted by: don at January 15, 2009 12:16 PM
Don, the BIS had this to say about China:
"Finally, it is also a fact that spending patterns in a number of countries have deviated markedly from what had been longer-term trends. In the United States and a number of other major economies, household saving rates trended downwards to record low levels and were often associated with mounting current account deficits. By contrast, in China there has, equally unusually, been a massive increase in fixed investment. As with high asset prices, these patterns are consistent with a plentiful supply of cheap credit."
It seems that the BIS sees China's anomaly as also being the result of cheap credit, which it blames on central bank looseness (read Greenspan's Fed). I don't know whether the BIS has this right or not. But since it fits in with my take on things I tend to accept it rather than reject it.
I also don't know whether the yen carry trade could explain overinvestment in US assets. It is my understanding that the yen carry trade was focused mainly in Europe where bond rates were higher and the currency was holding up relative to the yen, helping drive the Euro higher.
If people borrowed money in yen to invest in the US, it would tend to drive the yen higher, reducing the principal value of assets held in dollars. Why would people take low-interest loans in yen to buy low-interest instruments in dollars when they could invest in Europe?
What I saw happening as the yen carry trade viciously unwound was the yen rising, the Euro falling and the dollar staying right in the middle, which means to me that it wasn't affected very much by the carry trade.
Posted by: colonelmoore at January 16, 2009 07:25 AM