Economist Insights

Economist Insights

September 2014

  1. Hole-in-two

    Blog post | Tags: Joshua McCallum

    The central bank conference at Jackson Hole usually brings news about the Federal Reserve, but this time round it was the same story from Chair Yellen that the unemployment rate isn't everything. Instead, ECB President Draghi seized centre stage. By pointing out that the participation rate explains much of the difference between US and Eurozone unemployment, Draghi made  clear that monetary policy is no longer about just inflation and unemployment. 

August 2014

  1. A(sia)synchronous

    Blog post | Tags: Joshua McCallum

    A closer look at the Global Financial Crisis reveals it may not have been that global after all. Asian Emerging Markets managed to remain relatively stable throughout the crisis despite external volatility, largely due to robust credit growth and an influx of excess global liquidity. Now credit is still growing but the economies are slowing.

  2. The missing piece

    Blog post | Tags: Joshua McCallum

    In the UK, wage growth has remained weak despite the strong economy. Since 2011, the expected relationship between higher wages and higher employment has broken down. Is this to do with an increased supply of labour or weak productivity growth, or simply that it is taking longer for higher employment to translate into higher wages?

  3. Prediptable

    Blog post | Tags: Joshua McCallum

    In every year since 2010, economists have started the year being surprised by the economic data, were quickly disappointed over the next six months, and were then positively surprised by the strength of the data for the rest of the year. Why has this pattern held, and why have economists so far not changed their behaviour to take it into account?

  4. European league

    Blog post | Tags: Joshua McCallum

    European countries are commonly divided into two leagues: the core and the periphery. With the fiscal adjustment and structural reforms that have taken place over the past few years in the periphery, it should not be surprising if some countries (such as Spain) get promoted at some point to the core. And it can't be completely ruled out that a core country could get relegated to the periphery.

July 2014

  1. Core conundrum

    Blog post | Tags: Joshua McCallum

    The UK economy has exhibited various puzzles recently; the latest of these is the conundrum of core inflation. Core inflation is made up of services inflation and non-energy industrial goods inflation. When we look at the drivers which should be influencing these two components, something does not seem to add up.

  2. A capital idea

    Blog post | Tags: Joshua McCallum

    Business investment spending in the US has started to pick up but what is often unappreciated is that most of investment spending is simply replacing ageing equipment. Spending on new capital goods to actually expand capacity remains extremely low, and will need to rise if the US economy is to grow properly once more.

  3. Finally a Lending Stimulus

    Blog post | Tags: Joshua McCallum

    The ECB announced the Targeted Long-Term Refinancing Operation (TLTRO) in June as one of its measures to stimulate lending. The TLTRO is very similar to the Bank of England’s Funding for Lending Scheme (FLS), although the TLTRO’s terms are actually more advantageous for banks than those of the FLS. It looks like the ECB has tried to learn from the Bank of England’s experience, but it will take some time for TLTRO to have a discernable impact.

  4. Test drive

    Blog post | Tags: Joshua McCallum

    The responsiveness of the economy to interest rate changes will be crucial as central banks contemplate shifting to higher interest rates. The UK economy has tended to be more responsive to interest rates than the US, in part due to differences in the transmission mechanism through to households.

June 2014

  1. Gross Divergent Product

    Blog post | Tags: Joshua McCallum

    The drop in first quarter US GDP is the largest one quarter drop that has occurred outside of a recession. But the market seems to have shrugged off the bad data – there were a few unusual factors which had an impact. And other data that is released more promptly than GDP may be a better indicator of the underlying trend of the economy.

  2. Less for longer

    Blog post | Tags: Joshua McCallum

    The Bank of England has changed its view on interest rate hikes; rates could rise sooner than the market expected but less quickly. Now that the recovery in the UK has turned out to be surprisingly strong the new approach bears less risk relative to keeping rates unchanged for a long time. However, “less for longer” is more a rough guide than a commitment.

  3. Choice of Beveridge

    Blog post | Tags: Joshua McCallum

    Central bankers and economists are hotly debating whether the long-term unemployed can affect wage growth – a crucial question for the path of interest rates. Should the US Federal Reserve only focus on short-term unemployment when it comes to set its future monetary policy stance? 

  4. D(raghi)-Day

    Blog post | Tags: Joshua McCallum

    Last week's ECB announcement marked a departure from timid action and the launch of a full scale assault. The headline-grabbing news was the reduction in the deposit rate, but the other measures announced were significant and the most important new weapon in the ECB's arsenal is the new Targeted Longer-Term Refinancing Operation. Will these measures be enough to restore lending to the private sector?

  5. European Credit Bank

    Blog post | Tags: Joshua McCallum

    The ECB is concerned that small businesses in Europe want to take out loans but the banks are unwilling to lend to them. Without an expansion in credit it will be difficult for firms to expand business investment spending, which has been far lower since the financial crisis than gross profits would normally imply. What should the ECB be doing to encourage bank lending to support a recovery in investment spending?

May 2014

  1. All work and no pay

    Blog post | Tags: Joshua McCallum

    Central banks talk a lot about inflation, but what they are really keeping an eye on is wages. In the UK, the BOE may be downplaying the improvement in employment because so much of it has come from a rise in self-employment. Yet the growth in the number of employees has been recovering. And although wage growth may look like it is slowing, this may be down to a temporary composition effect. Within most sectors, wage growth is weak but rising.

  2. Profit and profitability

    Blog post | Tags: Joshua McCallum

    The recent rise in US corporate profits as a share of US GDP has been receiving a lot of attention. It may appear that US corporates are awash with profits but once you consider the impacts of depreciation and other factors the ratio looks high but not unprecedented. And if investment spending resumes the extra profits could diminish quite quickly.

  3. Abe-no-mics

    Blog post | Tags: Joshua McCallum

    The aim of the three arrows of Abenomics was to shock Japan out of entrenched deflation expectations and boost confidence. The announcement last year was successful at boosting confidence but this is waning again now that structural reforms have been difficult to implement and fiscal stimulus seems to be going in the wrong direction.

  4. Purchasing power clarity

    Blog post | Tags: Joshua McCallum

    Using new estimates of purchasing power parity, China’s economy looks on course to overtake the US economy very soon. But how much do PPP comparisons actually tell us about different economies? We should be cautious about the uncertainties involved in PPPs, particularly when comparing very different economies.

April 2014

  1. The end of the beginning

    Blog post | Tags: Joshua McCallum

    Interest rates are going to rise eventually; what impact will that have on fixed income performance? The fact that everyone knows interest rates will rise means that it should already have been priced in. We look at how bonds have performed in previous rate hiking cycles, and show that what matters most for bonds is how surprised markets are by the rate hikes.

  2. Quest for Easing

    Blog post | Tags: Joshua McCallum

    Comment is increasing about the potential introduction of quantitative easing by the ECB. It is crucial to distinguish between the QE the ECB would like to do and the QE it might be forced to do. Would "standard" QE through the purchasing of sovereign bonds be as effective in the Eurozone as it has been elsewhere?

  3. Home bias

    Blog post | Tags: Joshua McCallum

    Despite having one of the highest levels of public debt, Japan is seen as a “safe haven” for investors. More than 90% of Japanese government debt is held by domestic investors, and this “home bias” of Japanese investors seems to be supporting the somewhat unsustainable fiscal situation – at least, for now.

  4. Looking forward to it

    Blog post | Tags: Joshua McCallum

    Why did the ECB not announce any action last week following the release of very low Eurozone inflation figures? Surprisingly, the ECB does not seem too concerned about the risk of disinflation or even deflation. To understand the ECB’s position, it is important to look at the factors which have been keeping inflation low.

March 2014

  1. Exchanging problems

    Blog post | Tags: Joshua McCallum

    The appreciation of the euro not only makes the Eurozone less competitive but it also causes problems for the rebalancing of the Eurozone – even though they have a single currency, it makes the periphery countries less competitive within the Eurozone compared to the core. This week, we look at why this is the case.

  2. Pinning down the date

    Blog post | Tags: Joshua McCallum

    Central banks have been dropping hints about when they might hike interest rates, but the market seems to continually push the date out to next year (or the one after). Last week’s Fed announcement marked a sudden shift in the FOMC members’ projections of where the Fed funds rate will be at the end of 2015 and 2016. But the market remains resolutely unconvinced.

  3. Stability Island

    Blog post | Tags: Joshua McCallum

    The ECB is projecting that inflation in the Eurozone will remain below 2% until at least 2017. Very low inflation may sound like a good thing but it creates significant challenges for central banks. It is also a particular problem for the Eurozone as it is a threat to the rebalancing process.

  4. Unsanctioned

    Blog post | Tags: Joshua McCallum

    The situation in Ukraine continues to unfold. While not downplaying the seriousness in diplomatic terms, it is interesting to look at the economic implications using game theory.

  5. Under the weather

    Blog post | Tags: Joshua McCallum

    Severe weather can have a severe effect on economic activity, but some parts of the economy are hit worse than others. Looking at past harsh winters, it seems that most of the affected activities are only delayed, not stopped. Seasonal adjustment factors also have an effect on the data –  the adjustment is meant to smooth out predictable volatility to reveal the underlying trend; but have recent factors caused the adjustment to create patterns that are not actually there?

February 2014

  1. The Emerging Normal

    Blog post | Tags: Joshua McCallum

    Emerging markets (EM) have grown significantly faster than developed markets (DM), but this has only been true for the past decade. For most of the 1980s and 1990s, EM growth was similar to DM growth. It may be that the years of outperformance in the 2000s were the exception not the rule and investors may need to accept the idea of a new normal for EM.

  2. Taking apart

    Blog post | Tags: Joshua McCallum

    The US unemployment rate has dropped significantly since its peak in 2009 but this is mostly due to a sharp drop in the participation rate (the proportion of working age people who either have a job or are looking for a job). Is this being driven by structural or cyclical factors? This is the question the Fed needs to answer to set its monetary policy at the right level.

  3. The employment enigma

    Blog post | Tags: Joshua McCallum

    Despite UK GDP performing poorly, employment growth in the UK has held up pretty well since the recent recession. Output fell but people kept their jobs: creating both a productivity puzzle and an employment enigma. Has there been a shift in the labour supply? Or could the enigma be caused by GDP data which may be revised upwards?

  4. EM: exposing markets

    Blog post | Tags: Joshua McCallum

    Some emerging markets have found themselves wobbling in recent weeks, following a long period of hitching themselves to the loose monetary policy of the Federal Reserve. They face the choice of hanging on (by raising rates) or letting go (allowing their currency to depreciate) but neither of these options will be pain-free.

January 2014

  1. Deflated expectations

    Blog post | Tags: Joshua McCallum

    Inflation is moving back into centre focus for central banks, but it is not behaving everywhere in line with the economic cycle. The UK, Eurozone and US are all experiencing different inflation behaviour. What are the differing factors which are causing the divergence in these three markets?

  2. Mind the inflation gap

    Blog post | Tags: Joshua McCallum

    The IMF warned developed countries about deflation last week. Why is deflation now a threat, despite five years of expansive monetary policy? It is useful to look at the behaviour of the different components of inflation over the past few years. In the US and the Eurozone, core inflation seems to be following a typical relationship with the output gap, but in the UK there doesn’t seem to be a relationship at all.

  3. Is it really over?

    Blog post | Tags: Joshua McCallum

    Spreads of Italian and Spanish bonds over German bunds are now back near early 2011 levels. Investors have decided that it is worth earning the extra interest they can get by holding periphery debt – is this a structural change or simply a cyclical shift? As spreads on periphery debt fall, the paradox of risk habituation returns: investors become habituated to the risks of the Eurozone and stop worrying about it, taking the pressure off politicians, so no progress is made on the necessary reforms. But progress is most definitely still needed.

  4. Consenseless

    Blog post | Tags: Joshua McCallum

    Economists' forecasting record has been unusually poor following the financial crisis, thanks to uncertainty about monetary and fiscal policy, the impact of deleveraging, and the fate of the Eurozone. Each December, most economists revise their forecasts for the following year. Comparing consensus views from previous Decembers with the actual data from the following years shows some interesting patterns.

December 2013

  1. Market resolutions for 2014

    Blog post | Tags: Joshua McCallum

    To mark the turn of the year, we propose some New Year's resolutions for the market:

    - I will remember that stability is not always a good thing

    - I will not confuse monetary policy catch-up with a currency war

    - I will not confuse tapering with tightening

    - I will place more trust in forward guidance

    - I will start to ignore political bickering in Washington D.C.

    - I will treat emerging markets as emerging

    - I will not complain when I get what I wish for

    - I will not obsess about house prices

    - I will prefer the simplest of similarly plausible explanations

  2. Season of giving (and taking)

    Blog post | Tags: Joshua McCallum

    The Fed announced tapering of QE exactly a week before Christmas. The markets had been expecting tapering to start in March 2014 but instead of a later, faster taper, we got an earlier, slower taper. The announcement also increased the emphasis on inflation. While the Fed may be worried about low inflation in the US, other developed markets are more likely to complain about prices going up, as demonstrated by an update to our Christmas price indices from last year.

  3. Bird control

    Blog post | Tags: Joshua McCallum

    Central bankers are often categorised as 'dovish' (with a bias to looser monetary policy) or 'hawkish' (biased to tighter policy). The mix of doves and hawks on the Federal Reserve's Open Market Committee (FOMC) is due for a big shake up in January when 7 of the 12 voting members will change. What will this mean for the stance of the FOMC and its policy decisions?

  4. South Africa expects

    Blog post | Tags: Joshua McCallum

    In honour of the late Nelson Mandela, this Economist Insights takes a look at his legacy. His social and political legacy is clear and impressive, but his economic legacy has received far less attention. The two are interconnected: the end of apartheid marked a fundamental improvement in how the South African economy worked, but others must build on his legacy.

  5. Housing benefit

    Blog post | Tags: Joshua McCallum

    Why are people so keen to see house prices rise, when housing is one of their biggest expenditure items? Homeowners are happy to see the value of their asset go up but for the economy overall, house prices can only go on rising if every generation is willing and able to pay more than the last. Politicians are anxious to prevent house prices falling but they are in danger of confusing a symptom with a cause – a stronger economy generates higher house prices but higher house prices do not generate a stronger economy.

November 2013

  1. Occam’s ruler

    Blog post | Tags: Joshua McCallum

    Ever since the financial crisis, there are many who have claimed that economies like the US are now on a trajectory of permanently slower growth. However, the burden of proof should be on demonstrating why trend growth has suddenly changed its behaviour. Looking at growth over the very long run (back to 1870) is illuminating.

  2. Interesting divergence

    Blog post | Tags: Joshua McCallum

    Households in the UK may be forgiven for wondering when they are going to benefit fully from the Bank of England’s interest rate cuts. In 2006, the BOE rate was 4.5% and the variable mortgage rate was 5.5%. Now, with the BOE rate at just 0.5%, the variable mortgage rate has only fallen to around 3%. With all the ill-feeling about the role of banks in the financial crisis, is this just another example of exploitation by banks?

  3. Actions speak louder than words

    Blog post | Tags: Joshua McCallum

    The ECB has been surprisingly successful with its communications strategy but it has been unable to fully convince the market on forward guidance. Last week the ECB took the market by surprise by implementing a rate cut to 25bp, a month earlier than expected. The ECB used a sudden drop in the flash estimate for inflation as the reason for the cut. Decelerating inflation is a Eurozone-wide issue and is occurring across all expenditure components. In addition to the rate cut, the ECB extended its 3-month LTRO programme until at least mid-2015, which is potentially aimed at avoiding some unpleasant risks for Eurozone banks further down the line.

  4. Red pot calling the kettle black

    Blog post | Tags: Joshua McCallum

    Last week the country with the largest current account deficit (US) criticised the country with the largest current account surplus (Germany) for being imbalanced. The irony is not lost, but the US has a point. In the debate about global imbalances the Eurozone was usually ignored as it was broadly in external balance, but it did run up big internal imbalances. Since the crisis the deficit countries in the periphery have rebalanced, but the core (led by Germany) has increased its surplus, making the Eurozone part of the global imbalances problem. The criticism falls on deaf ears: Germany and other exporters' obsession with current account surpluses is as perplexing as the US's past insouciance about its current account deficit. Big surplus and deficit countries alike are just building up more risks for the world economy.

October 2013

  1. Undersupplied and undemanding

    Blog post | Tags: Joshua McCallum

    Five years after the financial crisis, and in the Eurozone loans to businesses are still depressed. It is not straightforward to identify if this is caused by a change in demand or a change in supply, but this distinction is crucial for policy-makers. The Eurozone as a whole has gone through several different phases but it seems now that weak demand is dominating. As usual, the problem is not uniform across the Eurozone – over the last year, the periphery has experienced both weaker supply and weaker demand, the core looks to have stabilised and the 'coreiphery' is starting to diverge from the core and see weaker demand. The situation highlights the limitations of monetary policy tools.

  2. Domestic disputes

    Blog post | Tags: Joshua McCallum

  3. The rough with the smooth

    Blog post | Tags: Joshua McCallum

September 2013

  1. Let’s (LT)ROll again

    Blog post | Tags: Joshua McCallum

                       

  2. Misguided experiment

    Blog post | Tags: Joshua McCallum

    The Federal Reserve statement last week surprised the market by not announcing any tapering of quantitative easing. The Fed's experimental policy had not worked out quite as expected but why was the market so surprised? The market always wants certainty and took the Fed's earlier trailing of tapering as a pre-commitment. The Fed may have lost some credibility by not tapering this month but with the economy and the underlying unemployment rate far from where the Fed would like them, it is no wonder that the Fed is being so cautious.

  3. What rhymes with Japan?

    Blog post | Tags: Joshua McCallum

    Two decades ago, Japan experienced a sharp crisis followed by a sustained weak economic performance. Looking at countries that are experiencing a weak recovery now and how closely they resemble Japan in the early 1990s may tell us something about how likely these countries are to repeat the experience of Japan. In this week's piece, we use six characteristics to compare these countries with Japan in the 1990s.

  4. One-downmanship

    Blog post | Tags: Joshua McCallum

    Both the ECB and Bank of England have recently adopted forward guidance of one form or another. But judging by market reaction, this seems so far to have been unsuccessful and the recent improvement in the economic outlook has not helped. Forward guidance in Europe is also impacted by rising US bond yields. While the ECB and the Bank of England in theory have the necessary levers to anchor short-term rates, they may need to engage in ‘one-downmanship’ to convince markets that their economies are not as strong as the US and therefore their yields do not need to rise as aggressively as the market is currently pricing.

August 2013

  1. Highs and slows

    Blog post | Tags: Joshua McCallum

  2. Summer breeze

    Blog post | Tags: Joshua McCallum

    This summer has been less heated in the Eurozone sovereign markets than the past three summers. The economic outlook has improved and the Eurozone finally resumed growth in Q2 2013 after six quarters of contraction. The headwinds facing the Eurozone are still strong but are less intense than last year. It is likely that the recovery will be gradual and relatively muted. Some progress has been made in structural adjustment but some of the structural causes behind the crisis have not been fully resolved. The worst of the crisis may have passed but the crisis itself is far from over.   

  3. The Commitments

    Blog post | Tags: Joshua McCallum

  4. R&D: Revision & Definition

    Blog post | Tags: Joshua McCallum

July 2013

  1. Rain-makers

    Blog post | Tags: Joshua McCallum

  2. Quantitative teasing

    Blog post | Tags: Joshua McCallum

  3. Underemployed and understated

    Blog post | Tags: Joshua McCallum

    The US unemployment rate has been falling but the news is not as good as it appears. The unemployment rate only considers those who are actively looking for work so it does not capture those who have become discouraged and given up looking. The summary unemployment rate also obscures a lot of differences in the detail, such as differences between age groups. The Federal Reserve knows that the labour market is far more complicated than just the unemployment rate and has given the market a reminder of this – so do not expect rates to rise sooner than the Fed has indicated.

  4. Four-word guidance

    Blog post | Tags: Joshua McCallum

    Central bankers are usually averse to committing to future action, yet last week both the Bank of England and the European Central Bank took steps towards giving forward guidance. The leaders in central bank forward guidance are Sweden’s Riksbank and Norway’s Norges Bank which both publish explicit rate path projections. The ECB is a laggard, held back by its inflation target mandate. In the past the ECB and other central banks may have followed the Fed, but that was only because their economies followed the Fed. The recent statements suggest this may no longer be the case in future.

June 2013

  1. Controlled descent

    Blog post | Tags: Joshua McCallum

  2. The land of rising expectations

    Blog post | Tags: Joshua McCallum

  3. Moving out

    Blog post | Tags: Joshua McCallum

    The Federal Reserve has placed great importance on a recovery in the housing market and its latest quantitative easing round directly targeted household borrowing costs. But US mortgage rates have recently spiked up, partly in reaction to speculation that the Fed would taper its QE3 bond purchases earlier than previously thought. The housing market has been strong lately, but there is still a fear that the mortgage rate spike might dampen the recovery. Luckily the fundamentals of demand are much stronger than in the past. And as house prices are still over 25% below the pre-crisis peak, while personal income per capita is over 5% above its pre-crisis peak, it would take a significant mortgage rate increase to make housing unaffordable.

  4. Austereotypes

    Blog post | Tags: Joshua McCallum

May 2013

  1. Numbers speak louder than words

    Blog post | Tags: Joshua McCallum

    Markets got excited last week by talk that the Federal Reserve might be tapering quantitative easing this year. This was reading too much into the Fed basically saying what it had said before, that tapering of QE will depend on the state of the economy. The market should focus much more on examining future data releases than on what is said today. The Fed considering its exit strategy is simply ordinary risk management. Even if the Fed does start tapering QE this summer, it would not mark the start of a tightening cycle. The stock of QE would still be increasing each month, it is just that the rate of increase would be slower – not as exciting as the market made it out to be. 

  2. Money for something

    Blog post | Tags: Joshua McCallum

    The ECB stopped paying interest last July on deposits it holds for European banks, and it may soon turn its deposit rate negative: making the banks pay for the privilege of depositing their excess cash. Money borrowed from the central bank effectively ends up back at the central bank after passing through various transactions in between, so banks will always pay the borrowing rate and receive (or pay) the deposit rate. Widening the gap between the two rates could stimulate bank lending and therefore the economy. But there is also the risk that the banks do not behave the way the ECB would like and reduce borrowing, move money out of the Eurozone or simply pass on the higher costs to customers.

  3. Indebted

    Blog post | Tags: Joshua McCallum

    The universal conclusion seems to be that there is too much debt and not enough savings. This is preposterous as one person’s debt is another person’s savings and, in the global economy, the total stock of financial assets will equal financial debt. It is easy to see how the transition from leveraging to deleveraging led to a recession but this does not explain why growth has remained weaker since. As banks and other financial institutions work to repair their balance sheets, are they properly intermediating between savers and borrowers and facilitating an efficient allocation of resources?

  4. Middle Kingdoms

    Blog post | Tags: Joshua McCallum

    The Chinese have historically referred to their land as the Middle Kingdom but in development economics the middle is actually a dangerous place. As economies grow they run the risk of getting caught in a slow-growth middle-income trap, which is a concern when markets are hoping that middle-income countries will be the growth engines for the world. For China and others, getting policy right should ensure that they do not stay middle-income economies for longer than necessary.

April 2013

  1. Re-set and Re-creation

    Blog post | Tags: Joshua McCallum

    The conclusion of Professors Reinhart and Rogoff that high levels of debt (above 90% of GDP) are associated with much lower rates of growth has been seized upon by austerity-minded politicians. Others disagree and, as the debate on the relationship between debt and growth rages among economists and commentators, we can only wonder whether politicians have sufficient courage and honesty to take action now to address future debt burdens.

  2. Four seasons

    Blog post | Tags: Joshua McCallum

    Markets seem to have been following a pattern for the last few years. The first quarter comes in strong and the second quarter then disappoints expectations quite severely. This may be partly due to the fact that economists’ expectations lag behind changes in data direction. It may also have something to do with the technical and somewhat dreary question of seasonal adjustment: the financial crisis hit hardest in Q4 2008 and Q1 2009. The changes were so big that the seasonal adjustment models started to interpret some of this as seasonal factors and may have over-adjusted. The final factor seems to be coincidence in the timing of political or policy shocks.

  3. Exchange wait

    Blog post | Tags: Joshua McCallum

  4. Federal Reserve Bank of Japan

    Blog post | Tags: Joshua McCallum

    Under its new governor, Haruhiko Kuroda, the BOJ has finally changed course. Japanese QE now follows the Fed model: there is one QE programme, bonds will be bought across the curve and buying will continue until the central bank thinks that its objectives will be achieved. With the BOJ moving from being the laggard to becoming more like the Fed than the Fed, the ECB has now become the laggard and, unless it can bring about any new surprises, it will end up looking a lot like the old Bank of Japan.

  5. Out of hand

    Blog post | Tags: Joshua McCallum

March 2013

  1. Assume a can-opener

    Blog post | Tags: Joshua McCallum

  2. Sequestionable

    Blog post | Tags: Joshua McCallum

    Automatic spending cuts negotiated by the US Congress in 2011 have kicked in. Known as the sequester, the idea was that the cuts would be so unwelcome that they would force an agreement to avoid them. But that idea failed and the US is seeing more fiscal tightening this year. The economic impact may not be as big as some had feared – economic data for the US continues to come in stronger than expected, and the market does not seem that bothered. This may also be an example of risk habituation – the more that markets are exposed to political uncertainty, the less they worry about it. 

  3. Italian grill

    Blog post | Tags: Joshua McCallum

    The indeterminate result of the Italian election earlier this week has re-ignited uncertainty. The centre-left coalition secured a majority in the Chamber of Deputies but no party has a majority in the Senate. The most likely scenario is that PD will form a minority government supported by M5S but new elections may be called within the year. Whatever government is formed, the worry is that it could roll back the austerity measures and reform programmes introduced over the past year. Market reaction to the election result was very muted; either the market is optimistic about the chance for a viable government, or it still thinks the ECB will stand behind Italy regardless of the outcome. 

February 2013

  1. Risk appreciation

    Blog post | Tags: Joshua McCallum

    The Eurozone has experienced rapid currency appreciation over the past six months, which is hard to explain away as simply a return of investor confidence. The recent ‘currency wars’ have been having an impact too. While the level of the nominal effective exchange rate may not be a worry, the speed and size of the appreciation are more of a concern. Gradual movements in exchange rates are easier to adjust to. A rapid exchange rate shock is an unwelcome hit to the international competitiveness of some already fragile Eurozone economies and could weigh on the fragile recovery expected in the second half of 2013.

  2. Porcelain

    Blog post | Tags: Joshua McCallum

    Views on China are often polarised between perma-bulls, who think China will keep growing rapidly forever, and perma-bears, who think its growth story is an illusion and could crack at any time. China appears to have managed a soft landing following the global financial crisis and so far the perma-bulls seem to have been right. However it is possible that this soft landing could generate the very risks that the policy-makers seek to avoid, especially if it comes with rapid growth of credit and shadow banking. Increased volatility and slower GDP growth could be a sign that China is rebalancing its growth away from being too credit dependent.

  3. Moving target

    Blog post | Tags: Joshua McCallum

    Governor Mark Carney, soon to take up his appointment as next Governor of the Bank of England, gave evidence to the UK parliament’s Treasury Committee last week. The market may have been looking for an announcement of big changes for UK monetary policy, but Governor Carney’s comments left his options open. He stressed the importance of flexible inflation targeting, but did not go as far as recommending price level targeting or nominal GDP targeting, which some commentators were looking for.

  4. Deferential equation

    Blog post | Tags: Joshua McCallum

    It is official – the US economy contracted in the fourth quarter of 2012 according to data released last week. The headline was worse than the underlying data, but the underlying data was by no means strong, most likely impacted by the ongoing political uncertainty in the US. Households and firms tend to defer expenditure (or trade down) when faced with uncertainty. Households are also worried about future job prospects and income, fuelling the conditions in which they will once again cut back spending on deferrables. The best hope for better data in the second half of 2013 is that there is a rapid resolution of the fiscal cliff situation, providing some certainty to households and firms.

January 2013

  1. Make money, not war

    Blog post | Tags: Joshua McCallum

    The Bank of Japan last week shifted to a more expansive monetary policy stance, sparking comments from the German Bundesbank about starting a currency war. Yet if all central banks increased their money supply by the same proportion, there would be no impact on currencies (and there would be a large monetary stimulus). The upsets come when some central banks do not want to participate. The worries about currency wars are in part worries about increased politicisation of central banks. While political involvement may be problematic, it is also true that someone needs to hold the central bank to account, and that someone is the elected government. If a central bank has failed to deal with deflation for two decades, there should be no surprises when governments get impatient.

  2. Seven sides of the same coin

    Blog post | Tags: Joshua McCallum

    ECB President Draghi recently listed seven factors that show a significant improvement in Eurozone market conditions. However, it could be argued that every point he made is all the result of one thing – the creation of the OMT, which drastically changed the risk perception of Spain. The OMT was a major achievement in crisis management, but to claim that the improvement in market conditions has addressed the problems within the Eurozone is optimistic, to say the least.

  3. Risky habits

    Blog post | Tags: Joshua McCallum

  4. Deal again

    Blog post | Tags: Joshua McCallum

    Last week’s US fiscal cliff agreement was just the first round of the fiscal cliff games. Everything that was agreed was about tax, and spending still remains to be addressed. The next few rounds will focus on the sequester, the debt ceiling and the continuing resolution. The uncertainty about the fiscal cliff had real effects on the economy, and the agreement reached over the New Year only removes some of the uncertainty. There is still more to be done.

December 2012

  1. Market resolutions

    Blog post | Tags: Joshua McCallum

    To mark the turn of the year, we propose some New Year’s resolutions for the market:

    • I will stop obsessing about AAA ratings
    • I will not fight the Fed
    • I will not underestimate the ECB
    • I will allow the possibility of China slowing down
    • I will reconsider the fiscal multipliers
    • I will remember that the euro is not the ERM
    • I will stop calling for a quick fix from politicians

  2. Christmas PI

    Blog post | Tags: Joshua McCallum

  3. Boxing Day

    Blog post | Tags: Joshua McCallum

    Last week, the US Federal Reserve gave markets an early gift in the new communication about its monetary policy. The Fed announced that it would be unlikely to hike rates until the unemployment rate falls below 6.5%, as long as inflation remains below 2.5%. This creates a ‘box of accommodation’ wherein the Fed will not hike rates. The Fed is continuing with quantitative easing, but there has been no commitment on QE equivalent to the new guidance on rates. We are now into open-ended QE with no announcement of what its ultimate level is likely to be. Certainty about the future path of the Fed target rate has increased, but certainty about the ultimate level of QE has diminished.

  4. New Holland

    Blog post | Tags: Joshua McCallum

  5. Sense and sustainability

    Blog post | Tags: Joshua McCallum

    The focus for countries has always been on the level of their debt, but in fact sustainability depends far more on the interest burden from that debt. The interest rate is like the growth rate of the stock of past debt, so a country with a high enough GDP growth rate can effectively outgrow its stock of debt. While many countries have become less sustainable as debt has risen in recent years, for some the overall burden of their debt has remained unchanged or even fallen. Nonetheless, as debt rises countries become more exposed to a change in interest rates, particularly since many countries have been issuing shorter dated debt to capture lower borrowing costs.

November 2012

  1. Current accounting

    Blog post | Tags: Joshua McCallum

    Since the financial crisis struck, global trade imbalances have fallen off the radar and proceeded to quietly improve. You could argue that this is one positive by-product of the financial crisis. Or, alternatively, that the financial crisis was the result of the imbalances, at least in part. Because much of the improvement in trade balances has resulted from lower imports, a global economic recovery could actually see the return of the imbalances. What can be done to avoid sending us back to square one?

  2. Greecing the rails

    Blog post | Tags: Joshua McCallum

    The Eurozone embarked on a single currency that was only half complete. It has taken the crisis triggered by Greece to bring about the impetus to complete the project. It seems clear now that Greece’s unsustainable debt dynamics could be the trigger for an ultimate solution which must include some form of debt mutualisation. The IMF and the European Commission disagreed last week on the projections for Greece’s debt profile, but the real dispute is about when to admit to that underlying need for debt mutualisation.

  3. Status quo vadis

    Blog post | Tags: Joshua McCallum

    The US election resulted in a vote for more of the same. The prospects for resolution of the ‘fiscal cliff’ therefore do not seem that high. It is unlikely a solution will be reached in the ‘lame duck’ session of Congress between now and the end of the year, and the politicians may see the real deadline as the point the Treasury runs out of money (likely to be March 2013). However there are some differences in the post-election Congress that may be more positive for an agreement. Unfortunately what is economically rational is not necessarily politically rational.

  4. New Amsterdam

    Blog post | Tags: Joshua McCallum

    New York was called New Amsterdam until 1665, and after Hurricane Sandy New Yorkers may be regretting the loss of the Dutch expertise on flood defences. Natural disasters can have a small positive impact on the dynamics of GDP, but make no mistake – disasters are unambiguously bad. Money spent on rebuilding the capital stock is less useful than if you had avoided the disaster and instead spent the money on increasing the capital stock. Some firms and individuals will benefit at the expense of others, but overall the impact will be negative. The data will be noisier, so it is useful to see that prior to the hurricane, the trend in global purchasing manager indices was turning positive once again.

October 2012

  1. Back to basics

    Blog post | Tags: Joshua McCallum

  2. Overcoming gilt

    Blog post | Tags: Joshua McCallum

    As a consequence of its quantitative easing programme, the Bank of England is now holding a large amount of government debt. This may blur the line between where QE finishes and debt monetisation begins, but the differences between QE and monetisation are substantial. Even if the Bank of England decides to roll over its current holdings of government bonds indefinitely, the effects on the economy would be still very different from those of proper monetisation.

  3. When my information changes...

    Blog post | Tags: Joshua McCallum

  4. Fiscal bungee

    Blog post | Tags: Joshua McCallum

    Recent ECB actions have allowed investors to switch their focus from the Eurozone crisis to the impending US ‘fiscal cliff’. The limited time between the election and the fiscal cliff and the increasing polarisation of politics make it look increasingly likely that the US will fall off the fiscal cliff in January. Some politicians may like to go over the cliff because they think a deal will be easier from that starting point. In other words, there will be some fiscal loosening. In that scenario, the US might be saved from the recession that a full fiscal tightening would entail, but only at the expense of a very weak first half of 2013. The second half could be stronger, but like jumping with a bungee cord, you never bounce back to where you would be if you had not jumped.

  5. A real problem

    Blog post | Tags: Joshua McCallum

    The ECB has cut interest rates to help countries in the Eurozone periphery, but the main benefits are not being seen in the countries that need them most. Firstly, borrowing costs are much higher in the periphery relative to the ECB rate. Secondly, inflation in the periphery is lower so the real rate of interest on loans is much higher than in the core countries. The countries with the lowest growth rates actually have the highest borrowing costs. It might seem that higher inflation in the periphery is the answer, but the plus side to lower inflation is that the periphery becomes more competitive relative to the core. The cyclical problem is actually a structural advantage.

September 2012

  1. Loose or lose

    Blog post | Tags: Joshua McCallum

    The introduction of open-ended quantitative easing by the Federal Reserve has led to devaluation of the US dollar. The US is a relatively closed economy so the trade benefits for the US economy from such devaluation are limited. For other more open economies, the exchange rate impact of monetary policy can be significantly more important. Hence it is no surprise that many central banks have announced or are expected to announce policy loosening in the coming months. While the decline in USD relative to their own currencies might not be the official reason, it is likely to be a strong incentive.

  2. Credible irresponsibility

    Blog post | Tags: Joshua McCallum

    The Fed last week announced the introduction of an open-ended QE programme, whereby it will keep printing money until the labour market improves. This is a big change in QE because it signals a shift by the Fed toward providing more support to the labour market at the risk of undermining its commitment to price stability. However, in the current environment, deflation seems a bigger risk than inflation. The move puts the Fed in the lead among central banks when it comes to monetary easing.

  3. Alea iacta est

    Blog post | Tags: Joshua McCallum

    The disclosure of the details of a new ECB programme to buy sovereign bonds in distressed countries caused a significant positive market reaction last Friday. The programme will only buy bonds of countries that have signed up to the conditionality that goes with a bailout from the EFSF or the ESM and it will focus on short-term maturities. It marks an important step and it differs significantly from previous measures undertaken by the ECB. The new programme expands the set of tools available to the ECB and it could be said that the ECB is moving further away from the strict interpretation of its mandate.

  4. Jackson Hope

    Blog post | Tags: Joshua McCallum

    On Friday the keynote speech at the Federal Reserve’s symposium at Jackson Hole was less by Chairman Bernanke and more by Professor Bernanke. The speech was a strong defence of unconventional monetary policy but in terms of policy he simply restated existing positions. The market took this as a pre-commitment, but he could hardly have said anything else without being interpreted as hawkish. The Fed, and other central banks, have long been setting themselves up for further easing measures. Further quantitative easing looks most likely, but the market is hoping for something more - such as open-ended bond purchases or even more revolutionary ideas like nominal GDP targeting.

August 2012

  1. A September to remember

    Blog post | Tags: Joshua McCallum

    Over the last few years September has been prone to crisis and volatility and 2012 looks to be no different. Expect an eventful month; market volatility will be boosted by monetary policy decisions right from the start. In the middle of the month the German Constitutional Court rules on the latest Eurozone bailout scheme and the Dutch go to the polls to elect a new, possibly Euro-sceptic government. The usual government meetings plus the French budget, a report on Spanish banks and the beginning of election campaigning in Italy will underscore what will surely be a September to remember.

  2. Second wind

    Blog post | Tags: Joshua McCallum

    The Olympics are over, but the Olympian task that households face to reduce their debt continues. Households in both the UK and the USA have made huge strides in reducing the ratio of their debt to their income. In the UK, households achieved the improvement by cutting back on their retail spending drastically, although recently there have been signs of an acceleration. Perhaps this is the effect of the Olympic Games, but if so it will prove temporary in the third quarter. There is little to suggest Olympic Games have a positive impact on the host economy, since they mostly divert activity from elsewhere. The Olympics are only really worth doing for their own sake, not for the economy’s sake.

  3. Out of the shadows

    Blog post | Tags: Joshua McCallum

    With the Eurozone in ongoing crisis, everyone has forgotten about US housing where the financial crisis began. It is now five years since house prices started to fall in the US and after a period of stabilisation we are seeing a gradual upturn. The overhang of unsold homes is declining but there is still a ‘shadow inventory’ of homes in foreclosure that will prevent an acceleration. Falling house prices and mortgage rates have done a lot to improve affordability, but banks are still cautious to lend. US housing will still take many years to really get back to health.

  4. Draghonian moves

    Blog post | Tags: Joshua McCallum

    Last week the ECB opened the possibility of outright purchases of government bonds in the secondary market.

July 2012

  1. Trading places

    Blog post | Tags: Joshua McCallum

    The news flow has been focusing on Europe, but there have been some worrying signs in global trade. Exports never quite recovered from the crisis and remain below the long-run trend. With export growth numbers coming out of some Asia Pacific economies looking weaker, maybe there is more to worry about than just the euro. However, there is some silver lining to the lower level of world trade – it comes along with a substantial reduction in global trade imbalances over the last five years. In addition, some surveys have recently turned more positive on export growth.

  2. String theory

    Blog post | Tags: Joshua McCallum

    Last week scientists in Geneva announced the discovery of the Higgs boson, and the European Central Bank (ECB) announced the discovery of a zero interest rate on deposits. The ECB cut headline rates to 0.75%, but the zero deposit rate is intended to discourage banks from simply parking their cash at the ECB. The hope is that this will encourage banks to lend, but just now banks care more about return of capital than the return on capital. The grudging approach the ECB takes to easing makes policy less effective than for the Bank of England and People’s Bank of China (who also eased). Without more unconventional policy the ECB may find that rate cuts are about as effective as pushing on a string.

  3. Italy 3-1 Germany

    Blog post | Tags: Joshua McCallum

    Italy managed two successes against Germany last Thursday – a 2-1 win in the football plus a success in the EU summit. Germany conceded on Italy’s call for EU funds to be more readily used to prevent periphery bond yields from rising too high. Spain was the real winner in the summit, as in the football, with an agreement that EU funds would be used to intervene directly in banks. This keeps the debt off the Spanish government’s books, which the markets like. In the end, however, these concessions are small and the slow, incremental approach favoured by Germany is the longer-term winner.

About the authors

Economist Insights is written by Joshua McCallum and Gianluca Moretti. Joshua has been working at Global Asset Management with the title of Senior Fixed Income Economist since 2005. Prior to this, he worked at the UK Treasury as a macroeconomist. Gianluca joined Global Asset Management in 2010. Prior to this he worked at the Italian central bank.