August 04, 2013
More on the next Federal Reserve chair
Posted by James Hamilton at August 4, 2013 11:17 AMdigg this | reddit
Hopefully your well-stated argument is sufficient and compelling; if not there are at least a half-dozen other reasons to argue for Professor Yellen vs. Larry Summers.
Posted by: Steve Bannister at August 4, 2013 12:04 PM
An annoying part, though I'm sure it makes no real difference, is people don't disclose affiliations. You know Brad DeLong publishes work with Larry Summers. It's not a secret but he doesn't mention that in the FT piece. Thing is: no one mentions affiliations, past time spent with, etc. And I think that reflects this process is more about speaking up and showing your flag than expecting anyone to listen (other than the person you know and respect or hate).
This is a problem across fields. I remember Stephen Jay Gould eviscerating a book - which deserved it - without once mentioning that he'd been specifically attacked in the book. My reaction: who do you think you're fooling?
Posted by: jonathan at August 4, 2013 12:25 PM
jonathan: Then I should acknowledge, for those who may not be aware, that I did my graduate work at U.C. Berkeley, where Yellen and her husband George Akerlof were professors.
Posted by: JDH at August 4, 2013 12:39 PM
GNE/CNI Ratio Vs. Annual Brent Crude Oil Prices, 2002-2011:
GNE/CNI ratio fell to 5.0 in 2012 (EIA), while Brent averaged $112 in 2012.
GNE/CNI Ratio Vs. Total Global Public Debt, 2002-2011:
GNE/CNI ratio fell to 5.0 in 2012 (EIA), while total global public debt increased to $48 trillion in 2012.
GNE = Combined net oil exports from from top 33 net exporters in 2005
CNI = Chindia (China + India’s) Net Imports of oil
Regarding elections, and the new head of the Fed, my premise is that we are talking about new officers for the Titanic, after the ship already hit the iceberg.
In my opinion, the 10 year increase in global annual crude oil prices, from $25 in 2002 to $112 in 2012, was largely a result of China and India consuming an increasing percentage of GNE, which presented problems for net oil importing OECD countries like the US.
In response to annual Brent prices more than quadrupling in 10 years, it seems that most net oil importing developed countries like the US have been running large deficits, financed by real creditors and by accommodative central bankers, trying to keep their “Wants” based economies going, in an increasingly oil constrained world. What I define as Available Net Exports, or GNE less CNI, fell from 41 mbpd in 2005 to 35 mbpd in 2012.
In my opinion, the reality is that we are facing a relentless transformation, from an economy focused on “Wants” to one focused on “Needs,” as forced energy conservation moves up the food chain in the US.
While currently increasing US crude oil production is very helpful on a number of fronts, it is very likely that we will continue to show the post-1970 "Undulating Decline" pattern that we have seen in US crude oil production, as new sources of oil have come on line, and then inevitably peaked and declined (US crude oil production is currently about 25% below the 1970 peak rate of 9.6 mbpd).
For example, EIA data show that crude oil production from Alaska increased at 26%/year from 1976 to 1985, which contributed to a secondary, but lower, post-1970 US crude oil production peak of 9.0 mbpd in 1985 (up from a low of 8.1 mbpd in 1976), versus the 1970 peak rate of 9.6 mbpd. Because of the strong rate of increase in Alaskan crude oil production from 1976 to 1985, the US was actually on track, in the mid-Eighties, to become crude oil self-sufficient in about 10 years, but then the inevitable happened, and the rate of increase in Alaskan crude oil production slowed, and then started declining in 1989, resulting in a post-1970 "Undulating Decline" pattern. Note that the 1976 to 1985 rate of increase in annual Alaskan crude oil production (26%/year) exceeded the estimated 2008 to 2013 rate of increase in combined annual crude oil production from Texas + North Dakota (20%/year).
And we are still facing high--and increasing--overall decline rates from existing oil wells in the US. At a 10%/year overall decline rate, which in my opinion is conservative, the US oil industry, in order to just maintain the 2013 crude oil production rate, would have to put online the productive equivalent of the current production from every oil field in the United States of America over the next 10 years, from the Gulf of Mexico to the Eagle Ford, to the Permian Basin, to the Bakken to Alaska. Or, at a 10%/year decline rate from existing wells, we would need the current productive equivalent of 10 Bakken Plays over the next 10 years, just to maintain current production.
On the natural gas side, a recent Citi Research report (estimating a 24%/year decline rate in US natural gas production from existing wells), implies that the industry has to replace virtually 100% of current US gas production in four years, just to maintain a dry natural gas production rate of 66 BCF/day. Or, at a 24%/year decline rate, we would need the productive equivalent of the peak production rate of 30 Barnett Shale Plays over the next 10 years, just to maintain current production.
The bottom line is that the dominant pattern that we have seen globally, at least through 2012, is that developed net oil importing countries like the US were gradually being forced out of the market for exported oil, via price rationing, as the developing countries, led by China, consumed an increasing share of a declining post-2005 volume of global oil exports.
Posted by: Jeffrey J. Brown at August 4, 2013 03:05 PM
I'm not yet convinced that Yellen will be any better than Bernanke at the Fed, but there is plenty of evidence that Summers would be significantly worse.
Here is Summers speaking to Brooksley Born, head of the CTFC, when she had the audacity to merely suggest that they take a closer look at the risks in the new market in credit default swaps back in 1998: "You’re going to cause the worst financial crisis since the end of World War II." And promptly shut her down.
But of course Summers would never apologize to Born for this monumental blunder because she lacks a "gravitas" and by a gravitas I think you know what I mean.
Posted by: Joseph at August 4, 2013 04:21 PM
Joseph and other Bernanke critics,
What did Bernanke do wrong? From my reading of Friedman’s popularized book, “Capitalism and Freedom”, the Federal Reserve helped to turn a recession into a depression. It seems to me as a layman that Bernanke helped us avoid falling into an abyss.
Posted by: AS at August 4, 2013 05:33 PM
Whoever the next Fed Chairman/person is, s/he will do precisely what the owners of the Fed, i.e., the owners of the TBTE banks, want her/him to do, just as it has been for a century.
Thus, Summers is the perfect choice because he reflects a similar depth of arrogance, sociopathy, and contempt for the bottom 90% American working-class households as do his benefactors who own and run the TBTE banks.
Janet Yellen is a poor choice because she clearly lacks the necessary traits and skills Summers possesses in abundance.
Besides, Bernanke won't likely get his train ticket out of town and back to Princeton in time to avoid being blamed for the next recession that has likely already begun, or will later this year or early '14:
The cumulative effects of the yoy change in the price of oil and gasoline as a share of GDP and after-tax wages and salaries, rising interest rates, the higher payroll taxes yoy, and the contraction in federal gov't spending have likely reduced purchasing power of the bottom 90% of households similar to the historical effects of a Fed rate hike prior to a recession.
Yet, as in '00-'01 and '07-'08, the stock market is exhibiting yet another mass-delusional manic episode encouraged by cheap central bank reserves and record margin leverage to GDP:
Based on the long-term trend of reported earnings, average P/E, and PEG, the S&P 500 is currently priced for earnings and valuations for '25-'29 to '32.
Posted by: Bruce Carman at August 4, 2013 08:56 PM
In reply to AS:
As I understand it, the main criticism against Bernanke is that he has targeted inflation rather than jobs. As a result the Fed's QE has been inadequate, and has tapered off prematurely.
While this criticism may have considerable validity, the fact remains that in a zero bound limit situation like the one we're in now, there's a sharp limit to how much the Federal Reserve can do to restart the economy. The main problem right now comes from the reactionary Teahadists in congress who seem to be trying to block every form of government spending that would revive the economy. Bernanke has been speaking out against this congressional refusal to spend recently, which as far as I can tell is unprecedented for a Fed chairman. But in any case there's very little more than anyone can do regardless who the Fed chairman turns out to be. At this point fiscal policy is just pushing on a string. You can't revive the economy by pumping liquidity in if the economy is so depressed that no one is spending or investing.
Posted by: mclaren at August 4, 2013 09:20 PM
Forgive me for replying to an earlier Slugs and Menzie comment here, but I wanted it to visible on the current thread. Comments follow.
Posted by: Steven Kopits at August 5, 2013 04:36 AM
Yes, I am contending that oil is the binding constraint. Not capital. Not labor. Not air. Not water. Oil.
Now, is oil then the source of value? Well, imagine that I went to Microsoft’s headquarters and left everything untouched, except I removed all the air from the buildings. Production, indeed, life would cease in those buildings. In such a case, is air the source of value? Well, it’s the binding constraint, but having air alone would not make for a Microsoft. But air is a critical enabling commodity, even if it’s effectively free. Importantly, however, if we doubled the quantity of air from current levels in Microsoft’s buildings, it might not have any impact on productivity at all. Thus, a binding constraint matters when it is binding, but not very much otherwise (ie, something else will become the binding constraint).
Further, if I offer Microsoft low interest loans when there’s no air in the room, then those loans won’t matter much. Thus, if you’re not lifting the binding constraint, then adding other factors will be largely ineffective in increasing levels of activity. So the key to helping Microsoft would be to add air to its offices, not to re-pave its parking lots, for example.
And if you substitute “oil” (more precisely, “affordable mobility”) for “air” and “US economy” for “Microsoft”, then you understand the case I am making. That’s also why a stimulus program might not help if it does not address the binding constraint.
Posted by: Steven Kopits at August 5, 2013 04:38 AM
Let me repeat here the supply-constrained thesis to make sure we all mean the same thing.
The thesis states that oil supply growth is constrained (easily demonstrated), such that supply growth is not sufficient to meet the demand growth needs of all countries. In such a world, oil consumption will be re-allocated from the slow-growing countries (the OECD) to the fast growing countries (non-OECD). This is consistent with the data.
The slow growing countries will therefore have to adapt to lower oil consumption. For example, we might expect the fiscal and financial crises to be limited largely to the mature economies (true). And, indeed, we would expect to see declining oil consumption there over time (also true). The pace of decline can be reasonably estimated by calculating inherent demand (unconstrained demand growth). This method would predict annual OECD oil consumption declines of 1.5% (actually closer to 2% in the last few years).
To offset declining oil consumption without adverse economic impact, the OECD economies would have to increase their oil efficiency per unit of GDP at about 4.5% per year (if you wanted 3% GDP growth minus 1.5% oil consumption declines). Jim has back-of-the-envelope estimated that full cycle oil efficiency growth rate at about 2.5%, and I consider this plausible. It certainly should be above 2%, and I doubt a sustained rate much over 3.5% is likely. In such a case, OECD growth rates will be capped out at around 1.0-2.0%. (And that’s consistent with the data.)
Now, if you have a recession, then you typically need a 3% growth rate or so to rapidly absorb excess labor, which our model argues is unlikely. Therefore, re-absorption of labor will be protracted. (Consistent with the data.)
Importantly, such a model does not argue that labor cannot be re-absorbed. The US had full employment before it ever used meaningful quantities of oil. So a lack of oil doesn’t prevent a recovery in employment, but it does delay that recovery.
Further, in such a world, we might expect real median wages to continue to perform poorly, as even the employed share of the economy is struggling with higher real commodity costs. Importantly, this will be experienced as inflation at the household level, but not as inflation as measured by CPI. Prices are going up in real, not nominal, terms. (This is consistent with my household experience.)
Further, we would expect to see a “recovery-less job rebound” with re-employment outpacing otherwise expected GDP or productivity gains, because a lack of oil is reducing the productivity of the economy, but not necessarily preventing people from getting jobs over the longer term. (This is also largely consistent with the data.)
Such a situation does not necessarily imply inflation, as capital is not a binding constraint. But I am not convinced that it precludes it, either.
Posted by: Steven Kopits at August 5, 2013 04:44 AM
Summers and DeLong have more history than just publishing together. There worked together in the Clinton Treasury Department and, if I understand the hiring history correctly, DeLong owes his job at Treasury to Summers. DeLong is a Rubin guy, through and through, and so is Summers. DeLong is essentially cheering for his own team. His cheering should be weighed with that in mind.
Posted by: kharris at August 5, 2013 04:48 AM
Why are people like Svensson or Woodford not being considered? There are much bigger players in monetary policy than Yellen and Summers.
This seems like an overtly political move by Obama, which is contrary to his reappointment of Bernanke.
Posted by: Dan in Euroland at August 5, 2013 09:49 AM
It'd be nice if comments were coded for linking; very nice comment.
You may want to add that that inflation at the household consumer level puts upward pressure on the relative cost of debt. Debt which was taken on under bad assumption of high income growth prospects is a huge burden on current workers, preventing them from consuming, making changes to better locations, and changing careers.
Also, I think that there are many jobs that are required by fiat or exist because of tradition, which we continue to pay people fairly well for, that are likely of little, no, or negative value. Debt burden keeps people from moving to lower paying, but much more value added work.
Which also brings us to an important question: Are there enough workers with low debt burdens (e.g. recent short-sellers and bankruptcies and new workers) to provide disposable income growth to drive demand adequately?
And, how much does the debt burden prevent demand growth which is necessary for people to make investment in productive capital?
Posted by: aaron at August 5, 2013 02:32 PM
JDH This is an institutional question. Other than the prestige and name recognition that comes with the job, does the position of Fed chair have anymore inherent powers than the vice-chair? If we were talking about adding Yellen to the Fed Board, then I think the case for bringing in her obvious expertise would be overwhelming. But she's already the vice-chair, so what additional duties and powers come with the chair position? I'm mainly interested in vote counting on the FOMC, so I don't especially care whether Yellen or Summers gets the nod. Yellen's voice will still be heard either way. But I am worried about who would replace her vote as vice-chair if she gets promoted. Somehow I don't see Summers' ego taking a second-in-line job. Can those bright scientists at UC-Berkeley clone her?
Posted by: 2slugbaits at August 5, 2013 02:33 PM
To continue with my comments from the earlier post:
You had referenced econometric studies, and I'd like add some thoughts on which series are applicable to oil supply-constrained periods.
If we are looking to understand the effects of a constrained oil supply on the US economy, then we have really only four events in the modern record. Each of these is unique in its own way, and therefore must be handled with care. Notably:
The First Oil Shock
The First Oil Shock was caused by a the erosion of spare capacity and supply-driven price effects related to producer policy (ie, the Arab-Israeli War). The interaction was essentially between OPEC and the OECD countries, primarily the Saudis and the US, respectively. On the demand side, the US was the price setter. Motorization was not complete at this point, and demand recovered quickly after the event. Demand adjustment occurred in the context of a recession.
The Second Oil Shock
The Second Oil Shock was essentially similar to the First, but motorization was complete by this point, with per capita oil consumption peaking in the OECD countries in 1979. This period extended from 1979 to 1983. However, a twelve month period from mid-1980 to mid-1981 saw US GDP growth of 3% accompanied by falling oil consumption. This is the only period in modern history prior to 2011 when US oil consumption was falling absent a recession. However, this period of recovery was book-ended by recessions, and from an oil consumption perspective, it looks like a single recession from 1979-1983. I seem to recall that it felt that way, too.
The Great Recession (The Third Modern Oil Shock)
By contrast with the First and Second Oil Shocks, the Third Shock was entirely demand-induced. Oil production did not fall during this period. Rather, China’s surging demand coupled with a struggling oil supply led to a spike in prices culminating in the Great Recession. Demand adjustment occurred entirely in the context of a recession. In this case, the dynamic was between consumer countries (notably, China and the US), rather than between producers and consumers. Importantly, China became the price setter during this period; the US became a price taker.
The Arab Spring (The Fourth Modern Oil Shock)
This period extends from April 2011 arguably to the present. As you’ll recall, I argued that oil price spikes would be sufficient to send the OECD economies into recession. This was true for Europe and Japan, both of which have had on-and-off recessions ever since. However, the US escaped recession even as shale oil production soared. This period, April 2011 to April 2013, saw the US reducing oil consumption without a recession.
Thus, if we wish to see how economies respond to reduced oil consumption absent a recession, then we are left with essentially two periods in the US record: August 1980-July 1981 and April 2011-April 2013. That’s it. So when we speak of comparable econometric analysis, we are really speaking about this 12 quarter period. That’s the relevant historical record.
That’s why I am always cautious about the pace of sustainable efficiency gains in the economy absent a recession, and why I almost always reference Jim’s back-of-the-envelope estimate: it’s within the historical range, but lacking more time series data, I am forced to fall back on expert opinion, and Jim’s track record in these sorts of things is strong. So I work with his estimate for all practical purposes, but it’s an implicit acknowledgement of the paucity of data (US data).
I would also add that models matter. Oil markets developments of the last seven years can be interpreted from either a traditional, demand-constrained perspective, or from a supply-constrained perspective. I know of only three entities using a supply-constrained model: ourselves, Weatherford International (an oil field services firm), and Michael Kumhof at the IMF. Michael’s models are a bit more sophisticated that ours, but essentially take a similar approach. He’s had significant difficulty in gaining traction within his own institution.
Everyone else uses traditional, demand-driven models. These include all the oil majors, the major investment banks, the Fed, the EIA and IEA, and other forecasting agencies. This matters. For example, at the Fed, they monitor oil prices primarily through their effect on inflation, implicitly through the lens of price-inelastic demand. However, an economy seeing falling oil consumption paired with a growing economy is clearly seeing price elastic demand. Thus, any damage to the economy is being caused by oil volumes, not prices. The Fed doesn’t have any methodology to consider such an effect—which explains in part why they are so blind to oil markets and why their GDP forecasts are consistently too high. If oil prices are flat or declining, they don’t see a problem. If they were using supply-constrained models and monitoring oil consumption, they would be aware that something was amiss.
Posted by: Steven Kopits at August 6, 2013 05:36 AM
What if our Federal Reserve Chair wrote:
The key then to understanding the recent crisis is to see why markets offered inordinate rewards for poor and risky decisions. Irrational exuberance played a part, but perhaps more important were the political forces distorting the markets. The tsunami of money directed by a US Congress, worried about growing income inequality, towards expanding low income housing, joined with the flood of foreign capital inflows to remove any discipline on home loans. And the willingness of the Fed to stay on hold until jobs came back, and indeed to infuse plentiful liquidity if ever the system got into trouble, eliminated any perceived cost to having an illiquid balance sheet.
I could support such a candidate over Yellen and definitely over "Broken-Window-Fallacy" Summers.
This was written by Raghu Rajan who will lead India's CB in early September. Let's see, Rajan in India, Mundell in China while the US eats their dust at a paltry 1.7% growth.
Posted by: Ricardo at August 6, 2013 04:05 PM
Why do you keep addressing Menzie in a thread based on a post by Jim H.?
A curious matter is that nobody is talking about the third candidate mentioned by Obama recently, Donald Kohn, a former Vice Chair with much experience at the Fed. I personally think Yellen beats him as well as Summers, but he is clearly very qualified.
I suspect Obama has brought him upt to undercut the Yellen candidacy, which has support at least partly based on her experience at the Fed, which Summers lacks (not to mentions such types as Woodford or Svensson (although the latter does have central bank experience). Pretty clearly Obama wants Summers and is frustrated that so many are criticizing him and pushing Yellen.
Posted by: Barkley Rosser at August 8, 2013 04:26 PM