by Calculated Risk on 6/14/2010 11:59:00 PM

I thought these comments by St Louis Fed President James Bullard today were a little odd: The Global Recovery and Monetary Policy

"As of the first quarter of 2010, real GDP stands just shy of the 2008 second quarter level, so that growth of about 1.25 percent would be sufficient to allow real GDP to surpass the previous peak. At that point, the U.S. economy would be fully "recovered" from the very sharp downturn of late 2008 and early 2009."

Fully recovered? Tell that to the millions of unemployed workers.

"To be clear, the 1.25 percent is a quarterly number, and would be 5.0 percent at an annual rate."

Uh, I don't think that is clear. The 1.25% is the level real GDP is currently below the pre-recession peak.

What he meant is it would take an annualized quarterly growth rate of about 5% in Q2 to raise real GDP the 1.25% needed to reach the previous peak.

Although I think that 5.0 percent at an annual rate is too much to expect for current quarter real GDP growth, it seems like a reasonable possibility over the next two quarters combined.

What he means is he thinks there is "a reasonable possibility" that the economy will grow at an annualized rate of 2.5% over the six months period including Q2 and Q3. That is possible, but I'll take the under.

Given these conditions, I expect the U.S. recovery in GDP to be complete in the third quarter of this year.

This is overlooking the weakness in Gross Domestic Income. There are really two measures of GDP: 1) real GDP, and 2) real Gross Domestic Income (GDI). The two measures are conceptually identical, but yield slightly different results.

Recent research suggests that GDI is often more accurate than GDP, especially when the economy is weak. From Fed economist Jeremy Nalewaik, “Income and Product Side Estimates of US Output Growth,” Brookings Papers on Economic Activity.:

Considerable evidence suggests that the growth rates of GDP(I) better represent the business cycle fluctuations in true output growth than do the growth rates of GDP(E). ... These results strongly suggest that economists and statisticians interested in business cycle fluctuations in U.S. output should pay attention to the income-side estimates, and consider using some sort of weighted average of the income- and expenditure-side estimates in their analyses. The evidence in this paper clearly suggests that the weights should be skewed towards GDP(I) ...

Real GDI is still 2.3% below the previous peak, and if the economy grows at 3% all year, real GDI will not surpass the previous peak until Q1 2011.

by Calculated Risk on 6/14/2010 07:51:00 PM

From Kathy Jumper at the Mobile Press-Register: As oil washes ashore, property managers sharply cut condo rents (ht DaveinSV)

Property managers are offering 30 percent to 50 percent cuts at condominium units and beach houses, hoping to fill rooms and prevent cancellations in the wake of the BP oil spill.

"June has been gutted, as far as rental occupancies," said David Bodenhamer, a partner in Young's Suncoast Vacation Rentals in Gulf Shores ... "We've had $220,000 in cancellations in the last three days." ... "The problem is that even at those lower rates, we're not getting near enough takers. Reservation calls have gone to a fraction of what they would normally be on a daily basis."

I'm not sure the lower prices will make much difference. Who wants to vacation at a beach and not be able to swim in the water? Or to see (and probably smell) the oil?

The article mentions that Alabama beach resorts generate about 75% of their annual revenue in June, July and August. So this entire season is lost.

On the bright side, other resort areas are probably doing better.

When I went backpacking in the Sierra in the summer of 2008, I asked the ranger how the economy was impacting traffic. He said it was their busiest year ever! People were still going on vacation, just to less expensive destinations. With the Gulf disaster, I expect the inland mountain resorts will have a banner year.

by Calculated Risk on 6/14/2010 03:54:00 PM

Over the last year a number of analysts have predicted the Fed would raise the Fed Funds rate "soon". They have all been wrong.

The Fed's mission is to conduct "monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates". Historically the Fed has not raised the Fed Funds rate until unemployment drops significantly. Based on the the Fed's own forecasts of the unemployment rate and inflation, the Fed will probably not raise the Fed Funds rate until late 2011 at the earliest.

San Francisco Fed senior vice president and associate director of research Glenn Rudebusch writes: The Fed's Exit Strategy for Monetary Policy

Rudebusch's economic letter suggests that the Fed might not raise rates until 2012 ...

Click on graph for larger image in new window.

The graph from Rudebusch's shows a modified Taylor rule. According to Rudebusch's estimate, the Fed Funds rate should be around minus 5% right now if we ignore unconventional policy (obviously there is a lower bound):

The resulting simple policy guideline recommends lowering the funds rate by 1.3 percentage points if inflation falls by 1 percentage point and by almost 2 percentage points if the unemployment rate rises by 1 percentage point.
...
Figure 1 also provides a simple perspective on when the Fed should raise the funds rate. The dashed line combines the benchmark rule of thumb with the Federal Open Market Committee’s median economic forecasts (FOMC 2010), which predict slowly falling unemployment and continued low inflation. The dashed line shows that to deliver future monetary stimulus consistent with the past—and ignoring the zero lower bound—the funds rate would be negative until late 2012. In practice, this suggests little need to raise the funds rate target above its zero lower bound anytime soon.

Rudebusch them modifies the rule taking into account unconventional policy.

Even though the funds rate was pushed to its zero lower bound by the end of 2008, considerable scope remained to lower long-term interest rates. To do this, the Fed started buying longer-term Treasury and federal agency debt securities ...

The additional stimulus from the Fed’s unconventional monetary policy implies that the appropriate level of short-term interest rates would be higher than shown in Figure 1. ... If the Fed’s purchases reduced long rates by ½ to ¾ of a percentage point, the resulting stimulus would be very roughly equal to a 1½ to 3 percentage point cut in the funds rate. Assuming unconventional policy stimulus is maintained, then the recommended target funds rate from the simple policy rule could be adjusted up by approximately 2¼ percentage points, as shown in Figure 3, and the recommended period of a near-zero funds rate would end at the beginning of 2012.

Perhaps the unemployment rate will decline faster than expected - or inflation will increase - but right now I wouldn't expect an increase in the Fed Funds rate for a long long time ...

by Calculated Risk on 6/14/2010 01:21:00 PM

From MarketWatch: Moody's slashes Greece to 'Ba1' from 'A3'

Moody's Investors Service on Monday downgraded Greece's government bond ratings by four notches to junk status of Ba1 from A3 ...

No real surprise ...

by Calculated Risk on 6/14/2010 11:03:00 AM

From Bloomberg: Economy in U.S. Slows as States Lose Federal Stimulus Funds (ht Brian)

State and local cutbacks may trim growth by about a quarter percentage point in 2010 and 2011 ... said Mark Zandi, chief economist at Moody’s Analytics Inc. He also sees the governments lopping payrolls by 200,000 during the next year after reducing them by 190,000 in the 12 months through May.

“The budget cutting that is dead ahead will be a significant impediment to economic growth later this year into 2011,” he said in an interview.

I've been forecasting a 2nd half slowdown in GDP growth based on:

1) less Federal stimulus spending in the 2nd half of 2010. The decline in stimulus will probably be a drag of about 0.5% on GDP growth by Q4.

2) the end of the inventory correction. The inventory adjustment contributed 3.8% in Q4 2009 of the 5.6% annualized growth rate, and 1.65% of the 3.0% GDP growth (annualized) in Q1 2010. This will probably fall to zero - or even subtract from growth.

3) more household saving leading to slower growth in personal consumption expenditures,

4) another downturn in housing (lower prices, less residential investment),

5) slowdown in China and Europe and

6) cutbacks at the state and local level. According the Mark Zandi, this will subtract about 0.25% from GDP growth.

David Rosenberg of Gluskin Sheff + Associates wrote this morning:

"A double-dip, admittedly, is not yet a sure thing but I am definitely warming to the view."

I still think we will avoid a double dip, but I expect growth to be sluggish and choppy.

A quarter point here, and half point there ... and pretty soon you have some real drag.