Is there an NGDP Targeting bandwagon rolling here? Maybe

A James Alexander post

As recently as the late July John Williams, “an influential centrist” FOMC member and President of the San Francisco Fed, was mouthing the usual threats that have become so common about implementing more rate rises than the market expects:

“The Federal Reserve could raise interest rates up to two times before year end, a top Fed official said on Friday as he downplayed data that showed the U.S. economy grew far less than expected in the last quarter.”

Since then we have had a flurry of comments and speeches suggesting the Fed was engaged in a re-think of its monetary policy. Heck, as we said yesterday, just look a the title of the upcoming Jackson Hole Symposium: Designing Resilient Monetary Policy Frameworks for the Future  .

Now President Williams in a sort of official blog post seems to have completely changed his tune:

“Second, inflation targeting could be replaced by a flexible price-level or nominal GDP targeting framework, where the central bank targets a steadily growing level of prices or nominal GDP, rather than the rate of inflation. These approaches have a number of potential advantages over standard inflation targeting. For one, they may be better suited to periods when the lower bound constrains interest rates because they automatically deliver the “lower for longer” policy prescription the situation calls for (Eggertsson and Woodford 2003).

In addition, nominal GDP targeting has a built-in protection against debt deflation (Koenig 2013, Sheedy 2014). Finally, in a nominal GDP targeting regime, a decline in r-star caused by slower trend growth automatically leads to a higher rate of trend inflation, providing a larger buffer to respond to economic downturns. Of course, these approaches also have potential disadvantages and must be carefully scrutinized when considering their relative costs and benefits.

In stressing the need to study and consider new approaches to fiscal and monetary policy, I am not advocating an abrupt reversal of course; after all, you don’t change horses in the middle of a stream. And in monetary policy, “abrupt” and “disrupt” have more than merely resonance of sound in common. But now is the time for experts and policymakers around the world to carefully investigate the pros and cons of these proposals.”

It’s a shame he doesn’t mention Scott Sumner, the tireless campaigner for NGDP Targeting, but the blogosphere knows where the idea has come from even if a Federal Reserve President can’t be open about the fact.

But a Federal Reserve President who concludes by quoting Machiavelli probably knows a lot more about successful politicking than a mere blogger once of Bentley University.

“Conclusion – Economics rarely has the benefit of a crystal ball. But in this case, we are seeing the future now and have the opportunity to prepare for the challenges related to persistently low natural real rates of interest. Thoroughly reviewing the key aspects of inflation targeting is certainly necessary, and could go a long way towards mitigating the obstructions posed by low r-star. But that is where monetary policy meets the boundaries of its influence. We’ve come to the point on the path where central banks must share responsibilities. There are limits to what monetary policy can and, indeed, should do. The burden must also fall on fiscal and other policies to do their part to help create conditions conducive to economic stability.

Policymakers don’t often cite Machiavelli, but in this instance, the analogy is potent (and, perhaps, a portent). In The Prince, fortune is compared to a river; in times of turbulence it wreaks havoc, flooding and destroying everything in its way. But in calm and sedate weather, people can build dams and stem the tide of destruction. In other words, we can wait for the next storm and hope for better outcomes or prepare for them now and be ready.”

Yesterday we said that there had been little obvious reaction in markets. Well, today there has been a little more. Specifically in the USD, which weakened overnight on the back of the “influential centrist” changing his views. Bond markets do not agree as the yield curve remains flat and low. Bonds seem to be responding more to a perception of incipient economic weakness than a revolution in monetary policy. As true Market Monetarists will only know there has been a revolution when the Fisher effect (aka expectations effect) swamps the liquidity effect as bond prices crash in anticipation of higher nominal GDP growth.

The great Fed rethinking having minimal impact – so far

A James Alexander post

Everyone and his dog seem to be weighing in on the Fed’s “rethinking”. The only thinking that really matters is those of the folks on the FOMC (and maybe Bernanke). It is still encouraging, nonetheless. We have been posting on this “new thinking” since April at least. We especially liked the often-neglected Daniel Tarullo’s interview from early July.

William Dudley, the no.2 to Yellen on the FOMC, also gave an important but neglected speech in Indonesia a few weeks ago where he switched from suggesting the usual mantra that monetary policy was “highly accommodative” to saying it was only “moderately accommodative” A big change. He is now only moderately wrong rather than completely wrong..

He also, rather weakly. stated:

“As I noted earlier, I think the medium-term risks to the U.S. economic growth outlook are somewhat skewed to the down side. Thus, this needs to be taken into consideration in terms of the appropriate stance for U.S. monetary policy. With respect to the efficacy of monetary policy, given how close we remain to the zero lower bound for interest rates, I also think the risks are asymmetric. Therefore, we need to be a bit more careful about the risk of tightening monetary policy in a manner that proves to be premature, as compared to the alternative risk of being a little late. If we were to realize that we were slightly late, policy can be adjusted by raising short-term interest rates more quickly.”

All that said, the only reaction that would prove that the rethinking is having any actual impact is if medium term expected NGDP growth were rising. The evidence here is less encouraging. There is no market for NGDP growth expectations yet, so we are left with implied NGDP growth expectations.

  • The S&P500 has hit record highs. Good.
  • The USD has drifted down a bit from recent near term highs, but is still very much in its medium term channel. Neutral.
  • US bond markets at the short end suggest a rate hike after the election is probable. The medium and long end are at record low yields and the 10-2yr bond spread is back at record post-crisis lows. Bad
  • Commodities suggest no great upsurge in NGDP growth despite a modest recent rally in oil.

There may be stuff that obscures the messages from financial markets. Things like the relative monetary policy of non-USD currency blocs are as easy as the US, or easier, rendering the USD a tricky gauge of monetary policy. The supposed “safe asset shortage” could be masking what would otherwise occur in bond markets, that is, the liquidity effect is more than offsetting the Fisher (expectations) effect. Maybe, but markets tend to get things right in the end.

Perhaps this year´s Jackson Hole will provide some answers. It certainly adds to the usual weight of expectations on Janet Yellen’s speech on August 29th. The title of Designing Resilient Monetary Policy Frameworks for the Future  for this year’s workshops is a bit more encouraging

PS The great silver lining in the UK is that all the Brexit bears inside the insular metro-London elites who’ve apparently taken positions against the GBP and various equity proxies will get blown out of the water. Yeh!

The great Brexit devaluation mystery

A James Alexander post

Simon Wren-Lewis has an interesting post, Brexit harm denial and the exchange rate, where he discusses some popular notions about the great British devaluation after the Brexit vote.

I have already discussed it here and explained that part is a pessimistic reading of the future trade deals that the UK might strike. If you are pessimistic then fair enough. But this is not really about economics but futurology.

For a more optimistic, but very realistic understanding of the issues involved in trade deals Dr Richard North and his colleagues at EUReferendum have an excellent blog and series of monographs on Brexit, or Flexcit as they call it.

Wren-Lewis who, as far as I can tell, has never written a blog post on the economics of wealth creation out of the hundreds that he has posted, is not a great guide to the workings of the market – even if, to his credit, he is occasionally sympathetic to NGDP Targeting. Wealth creation is mysterious to him, a grubby business at best, full of overpaid CEOs, neoliberalism at worst. Perhaps it just happens by chance? According to him “99% of economics is about market failure” [in a reply on his blog to a comment of mine]: the modern dismal science epitomised, and his flirtations with Corbyn explained.

What caused the price change?

While it is utterly wrong to argue from a price change, it is very right to try and understand what caused the price change. Why did holders of Sterling sell? Political uncertainty was a factor, but that was relatively quickly sorted out and Sterling remains at the lows. Have other factors like US Dollar strength taken over, preventing a Sterling rally. Maybe.

Perhaps it was expectations that Mark Carney would dramatically ease monetary policy? In which case, the devaluation was not caused by Brexit but by the BoE’s expected stance. Although Carney had campaigned for Remain he made it clear he was ready to act if Remain lost. And he did act decisively, both on the day with interviews and somewhat grudgingly followed up with actions.

A relaxed monetary policy is quite a big step for a BoE that had been tightening all through 2015, if not quite a much as the US. In that sense, Brexit got Carney off the hook of having to make a more obvious u-turn. Carney had heavily overestimated UK economic strength during 2015 and early 2016 and was going to have ease in 2016 anyway.

Perhaps Sterling fell because market participants expected the UK economy to be smaller years ahead. Maybe, but it’s hard to see, practically speaking why they sold Sterling now on such an uncertain outcome, years ahead. Safe-haven buying of UK government bonds pushed down yields, which rather goes against this argument.

At the end of the day, the depreciation was only 10%, not that big in longer run historical contexts. Sterling fell 25% vs the US Dollar during both the 2008 financial crisis and after the ERM exit. It often moves on unexpected political news. The mild shock of a Tory victory in May 2015 drove it up 4%.

On Wren-Lewis’ specific four points:

  1. 1. “Depreciation has a good side, because it gives a boost to our exporters”

Well, he admits this is true. There will be a short term boost to exports thanks to the depreciation. And this will be good for the economy as the costs of Brexit, when it happens, will only come later. He says that “we are poorer because of Brexit”, but only because the markets expect us to be poorer and hence drove down the currency. He may be right in his interpretation, but those markets could turn out to be wrong about that piece of futurology. It is still very encouraging that Wren-Lewis recognises that market expectations can have real effects, just like market expectations about nominal growth.

He also claims that “markets believe Brexit will cause an economic downturn in the UK, implying lower levels of UK interest rates. (In this they have been proved correct).” One hates to disagree with such an eminent economist in his interpretations of market moves, but the Bank of England was very confident that Brexit would cause a rise in gilt yields due to fear about the UK economy and its credit rating. Remainers like Wren-Lewis and the BoE seem like they want to be right about the negative consequences of Brexit whatever gilt yields did.

What Wren-Lewis specifically fails to mention is the benefit to domestic demand of a depreciation, nicely expressed by Britmouse at Uneconomical back in January this year. Currency devaluation is a way of boosting AD, by forcing consumers to switch from overseas goods and services to domestic goods and services. This is the classic benefit of devaluation, not that it is good for exporters. The overall impact on the balance of trade is hard to tell given the inelasticity of much import demand. What tends to happen on a devaluation is that the value (in the devaluing currency) of both exports and imports rises, thus raising AD. If the devaluation was due to Carney’s expected reaction, then good.

  1. “Sterling was overvalued anyway”

While it is “ludicrous” to suggest that the problem of overvaluation, if it existed, was overcome by the Brexit devaluation, it isn’t ludicrous to suggest that devaluation will offset some of the pain. See 1.

3. “Sterling is only back to where it was …”

Wren-Lewis makes an obscure argument by analogy, something about having your basic pay cut but the boss promises it won’t be that bad as bonuses will be higher. The UK may be 10% poorer in $ terms but is it really relevant when Britons are paid in Sterling and wages in Sterling didn’t move at all. The UK is a massive holder of overseas investments, was the UK richer after the devaluation also?

And, yes, Sterling in Euro terms (the purple line) really only was “back to where it was”. In US Dollar terms (the blue line) it has been falling for a long while, mostly due to much more US monetary tightening versus the UK. To be fair, it does depend where one starts to draw the line, but then an argument about that issue doesn’t really lead very far as more and more “noise” enters the discussion.

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  1. It is just a temporary problem before things become clearer”

Wren-Lewis now lays his cards on the table (I think) and assumes there will be a short term economic downturn until the UK accepts the single market and free movement, at which point “the economy then recovers, interest rates rise, and sterling appreciates”. Brexiteers can then be blamed “for all this uncertainty and the temporary damage”.

Again, Wren-Lewis engages in a lot of futurology. Who knows if there will be much of a significant economic downturn from Brexit. Were we due one anyway given the weak NGDP growth over the last 15 months? A fact that Wren-Lewis and other macro-economists have been awfully silent over.

Who is to say what “free movement” means once it is up for negotiation? Does it mean exactly what we have now, with full access to UK welfare benefits for all and any EU citizens who move to the UK? Once we have agreed the trade deal with the EU will the EU prevent us negotiating deals with third party countries and blocs that the EU has so signally failed to do itself? Would this be bad for the UK?

The answers to these questions and many more will inevitably colour the macro-economic outcome, but these are political questions and macro-economists (and the Bank of England) would do well to make clear their political judgements on these issues before sounding off with such certainty about the economic outcomes.

BoE, grudgingly, will “tolerate” above target inflation projections: money stays tight

A James Alexander post

The BoE of surprised markets by not only doing the 25bps rate cut expected but by unexpectedly restarting the QE programme. An addtional £60bn of bonds will be bought, taking the total up to £425bn.

The currency fell at least 1.5% against most currencies. However, purer domestic stocks only rose between 0.5% and 1.0%. The FTSE 100 rose 1.5% reflecting the drop in GBP. Gilt yields responded with shock to the extra buying as the 10 year gilt yield plunged back to post-Brexit lows.

The drop in gilt yields further flattened the interest rate curve and the short to medium term end remained inverted out to 4 years. This bond action is not a good sign. And the gilt moves were contrary to the BoE’s expectations:

In addition to cutting Bank Rate, supported by the introduction of the TFS, the MPC has voted to expand its asset purchase programme for UK government bonds, financed by the issuance of central bank reserves. This will trigger portfolio rebalancing into riskier assets, lowering the real cost of borrowing for households and companies. 

Inflation expectations will have moved very little. This is probably because of the very grudging nature of the BoE “toleration” of above-target inflation. It is actually not even that, it is only toleration of above-target projected inflation:

Thus, in tolerating a temporary period of above-target inflation, the Committee expects the eventual return of inflation to the target to be more sustainable.

Carney’s monetary tightening of 2015 did for Osborne, Hammond should watch out

The toleration of below target inflation has been so pervasive that the BoE was perversely threatening to raise rates for most of 2015 and so consistently tightening monetary policy. The complacency of George Osborne, the previous Chancellor of the Exchequer, towards this policy probably contributed more than anything to his downfall.

I expect Philip Hammond the new Chancellor wanted more, but has not got it. He needs to make sure he doesn’t just leave the BoE to make such disastrous mistakes. His letter to Mark Carney hints at more flexibility than the BoE likes to use. He needs to alter this wording to make it clearer that nominal economic growth has a higher priority than CPI targeting:

As set out in the MPC’s remit, active monetary policy has a critical role to play in supporting

the economy. In these uncertain times clarity about our macroeconomic framework is vital.

I confirm that the government’s commitment to the current regime of flexible inflation

targeting, with an operational target of 2% CPI inflation, remains absolute. The target is

symmetric: deviations below the target are treated the same way as deviations above the

target. Symmetric targets help to ensure that inflation expectations remain anchored and

that monetary policy can play its role fully. 

The BoE can’t control CPI but invents a projected CPI to control and thus is free to do anything

The problem is that the BoE targets a fiction which, as its author, it closely controls: the central projection for CPI 2-3yr out. Several times over the last 18 months it has modelled an upside breach of the central 2% projection. Sometimes it has threatened to tighten as a result, sometimes it hasn’t – but always promises vigilance and a bias to tighten. It is inconceivable the BoE would ever project a downside miss to the target in 2-3 years’ time.

By continually overestimating current but not future inflation, monetary policy remains tight forever. Remember that CPI inflation has been consistently below 2% for several years yet Carney has been tightening for nearly 18 months with his threats of rate rises, and only rate rises, sooner or later.

Brexit: a convenient excuse for the BoE’s failed projections

The result of this focus on projected and not actual CPI has been a slow strangulation of real and especially nominal economic growth. By ignoring the terribly weak NGDP growth of the last 12 months Carney is now almost happy to have something else to blame other than the BoE’s own failure to not only act to boost aggregate demand earlier –  but for contributing to the slowdown.

Much of this revision [to RGDP forecasts] reflects a downward adjustment to potential supply that monetary policy cannot offset. However, monetary policy can provide support as the economy adjusts. 

The Bank’s excessively strong negative views on the future trade policy of the UK remain notable and are a continuation of the anti-Brexit campaigning we saw during the referendum debate. The BoE has been so wrong about so much when it comes to forecasting, that it really should show more humility, and stop targeting its own “fiction” of future inflation.

The bond markets clearly do not believe the BoE inflation projections. Carney should be a worried man. The BoE expected investors to flee UK bonds post-Brexit. They flocked to them. The BoE expected its corporate bond QE to lead to investors fleeing UK government bonds. They flocked to them instead. Carney stated that the bank had done huge amounts of thinking about this package. Clearly perspiration is no substitute for inspiration.

The Fed is failing: US NGDP growth crash

A James Alexander/Marcus Nunes post

US RGDP surprisingly disappointed today with just 1.2% QoQ annualised growth and, coincidentally, 1.2% YoY growth too. A lot of the weakness in real growth was due to perhaps noisy factors like inventories. However, even final sales are weakening. Household spending (PCE-Personal Consumption Expenditure) was also nothing exciting on a YoY basis at just 3.7%. Investment growth is now in negative territory.

The main story of today’s release is the horrible NGDP growth print for 2Q. The trend is even worse than we have been worrying about. The second quarter YoY growth rate was a mere 2.4%. This is well below the near 3% being seen in the supposedly sick Euro Area.

The charts indicate very clearly that since mid-2014, when the Fed began the on-off rate hike talk, nominal trends have been down. RGDP growth simply cannot blossom in such an environment.

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US slower real growth than France

Many were laughing about the 2Q RGDP figure for France today, but at 1.4% YoY it has grown faster than the US for the last 12 months. The Euro Area as a whole did better than France, growing 1.6% YoY in the second quarter.

This isn’t a complete surprise to us who have been pointing out the better news from the  Euro Area for some time. The reason is that monetary policy is so much easier in the Euro Area than the US. The ECB is on the front foot with Base Money growing at 40%+ a year versus negative 5% per year in the US.

Markets to Fed: “Stop talking nonsense”

A James Alexander/Marcus Nunes post

The FOMC statement today clearly tried hard to tell the market that the economy was improving,  signaling the “door is open for a September hike”!

“The labor market has “strengthened,” the Federal Open Market Committee said after its two-day meeting. That was brighter than the FOMC’s assessment six weeks ago, when the central bank said the pace of improvement in jobs growth had “slowed.” Moreover, officials described household spending as having been “growing strongly,” and economic activity as expanding at “a moderate rate.” That marked a mild upgrade from June, when the Fed said household spending had strengthened and economic activity appeared to have picked up.”

But … since mid-2014, the Fed’s own Change in Labor Market Conditions is still weakening, if a bit less than earlier in the year. Household spending in nominal terms is still awful, even if lowflation means real spending looks OK. NGDP growth is also sliding down. We know that money illusion means people certainly won’t feel better and low nominal growth does no favors  to productivity growth. The Price Pressures probability, calculated by the St Louis Fed, also shows price pressure is absent.

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Today’s FOMC statement followed on from the transparent spinning we spotted last week by the Fedborg.

In fact, three bits of data that came out today were all weaker than expected all in different areas of the economy: durable goods, pending home sales and stronger oil inventories. A “moderate rate” of expansion is just plain wrong.

The markets certainly reacted quickly, first seeing a rise in the USD and bond yields before shock kicked in that the Fed had lost touch with reality and both the USD and bond yields fell. Technically the first impact is the liquidity impact of tighter money followed by the Fisher effect of longer term expectations driving prices.

The feedback loop we identified  in monetary policy seems to be working very quickly these days, hours, minutes. In fact, it is on the way to collapsing to a single point: “Whatever the FOMC says, there will be no tightening”!

Daniel Tarullo: The Fed’s Market Monetarist?

A James Alexander post

Although Governor Tarullo is actually on the Board Governors of the Fed to take responsibility for banking regulation he often talks more sense than anyone at the FOMC about monetary policy. His July 6th interview with the WSJ, referenced in Tim Duy’s Bloomberg article  contained this choice quote:

… if markets do regard economic prospects as only modest to moderate going forward, then raising short-term rates is almost surely going to flatten the yield curve, which generally speaking is not good for financial intermediation and in some sense could actually exacerbate financial stability concerns. So, as I say, I think the observation is a reasonable basis for paying more attention to financial stability issues, but it doesn’t translate into therefore raise rates and all will be well.

It is worth stopping to think just how good is this answer.

  1. He thinks markets are well worth listening to about the economy. He’s humble about his own forecasting skills. He is almost suggesting that the Fed should be led by market expectations about the economy.
  2. Raising short term rates could flatten the yield curve. He’s almost saying that raising rates when the market thinks it inappropriate will lead to rates falling, especially at the long end at first, especially relative to the short end. And maybe lower rates at the short end too after a while.
  3. Raising rates too early, against the market, could lead to financial instability. He’s suggesting that raising rates to burst bubbles or whatever can cause the financial instability it seeks to prevent.
  4. HILSENRATH: You’re not worried about bubbles right now?
  5. TARULLO: Well, no, I’m not. I mean, there are always going to be asset prices that may be above historic norms. I think everybody should be a little bit humble about thinking you can identify in each market where a price is sort of out of line and think that you can then dial it back. What we should probably be looking at is to see whether, across a broad range of assets, first, prices are above—probably significantly above historic norms. But secondly, you know, when you’re thinking about financial stability, you really do want to look at how the assets are being funded because to the degree that there’s leverage, particularly short-term leverage, you’ve got greater risks. To the degree that there isn’t, there may be money lost if assets prove not to have the value that the market currently assigns to them, but that is the way a market economy is supposed to function.

He is then very explicit about how the urge to “normalize” rates by raising them is wrongheaded:

But I think my—I think it’s useful to give a little context here. I don’t think of this as a normalization process. You know, people sometimes write about it, talk about it, using the term “normalize” or “normalization.” And I don’t believe that there’s some target that the Federal Reserve should be moving towards. What the right level of interest rates is depends upon the manifold factors that are affecting the economy in the short term and over the longer term. So, for me, it is a judgment as to how—taking a pragmatic look at things, how we can best pursue the dual aims of maximum employment and price stability.

Maximum employment, means just that, not a certain set level of unemployment:

Now, in current circumstances, what does that mean? Well, I think, first, it’s worth focusing on the maximum employment goal. The statute—the Federal Reserve Act says we’re to pursue maximum employment; not some abstracted concept of full employment, but maximum employment that is consistent with price stability. And I think, as we’ve seen, that even though—you know, for nine or 10 months now some people have said we’re at or close to full employment, and yet during that period we’ve created 800,000 or 900,000 jobs with the unemployment rate essentially stable, except for last month when the participation rate brought it down. That tells me that there was more slack in the economy. That tells me that we have the opportunity to create more jobs. That is obviously good for those 800,000 or 900,000 Americans. That’s almost surely good for those who are more on the margins of the labor force. It’s almost surely good for groups, like African-Americans and Hispanics, who traditionally have had higher unemployment rates.

It’s neither the 1970s with a hot economy, and the Fed’s current tool set is biased towards tightening, not easing.

So I look at this as an opportunity for greater maximum employment in a context, moving to the second point, in which inflation is not at our stated target, not near our stated target, and hasn’t been so in quite some time. This is not an economy that’s running hot. This is not the late ’70s. This is an economy that has been moving forward in a gradual recovery, modestly above trend for some time now, but as I said a moment ago surely not running hot. And it’s also an economy in which we probably are not actually providing as much stimulus as people may think. The neutral rate of interest has surely come down a good bit since the pre-crisis period, probably because of slower productivity, slower demographic growth, probably a bit because of the global environment. But for all those reasons, the neutral rate is lower, which means we’re not as far away.

And finally I think, as many people have observed, the risks we face present us with an asymmetric set of tools. Were the economy to pick up more rapidly, which would be, I think, a welcome development, we have the tools to respond appropriately. But were things to slow down, we obviously would face a more limited set of tools.

UK NGDP picks up ever so slightly

A James Alexander post

UK RGDP in 2Q 2016 surprised on the upside today with 2.2% annual growth. NGDP also picked up a bit to 2.9%, but is still well below trend.

The numbers are only a first estimates, and there has been some funny business with a usually strong April following a very weak March. In any case no-one is that interested in 2Q as it is all pre-Brexit. No-one will be that interested in 3Q probably either as it will be influenced by the shock of the Brexit vote.


We are also not that interested in RGDP as it is such a low quality number, based on the neglected numbers that go to make up NGDP and the low quality GDP deflator figure that, like CPI, struggles to cope with qualitative and structural change.

NGDP in the UK has been horribly weak for the prior four quarters. The proxy number for NGDP, Nominal GVA, has been even weaker at a less than 2% average over the last four quarters. While the 2Q 2016 figure of 2.9% is better than the recent past it is still far below a healthy level. Only NGDP growth and hence wage growth of around 5% will allow real incomes to show a good diversity of outcomes and thus promote flexibility and productivity growth. Real wages are still squashed down into a narrow range of growth by this nominal sluggishness.

A top priority for the new Chancellor of the Exchequer is to give the Bank of England nominal growth targets for the good of the economy overall and for healthy tax receipts in particular.

Higher nominal growth will also enable the UK labour market to cope with (potential) shocks from things like Brexit, allowing aggregate negative real wage growth without having to go through job and wealth destroying process of aggregate negative nominal wage growth.

Hot potatoes? Encouraging news from Euro land

A James Alexander post

It’s been lonely blogging that the Euro Area economy was not nearly as bad as consensus reckons, even consensus amongst our fellow Market Monetarists. But the data has consistently shown Euro Area NGDP growth doing better, and at least as good as the long-term average.

The long-term avearge is dragged by the twin recessions and growth is still way below trend but it is far from hopeless. The Euro Area PMIs for July out today are quite good in themselves and especially good given they were taken after the Brexit shock and incorporate the impact of the growing Italian bank crisis and the terrorist tragedies in France. The Composite Index may be at 18 month lows but it was expected to be much worse that the still positive 52.9 reading.


Monetary policy is just about as easy as it could be given it is operating with the handbrake firmly on. The ECB balance sheet is roaring up and taking Euro Base Money with it. Draghi has said that he will keep the policy of QE for as long as it takes.

There is constant worrying chatter about the challenges of finding appropriate stuff for the ECB to buy – and this is great news. It is the “Chuck Norris” effect in action as it demonstrates the ECB’s commitment to QE on top of the actual financial asset buying it is undertaking. It will make economic actors begin to believe nominal growth really will accelerate even if the ECB doesn´t take further concrete steps (or “steppes”). The hot potato monster  may be stalking the land again.

German and Spanish NGDP growth rates are a great cause for hope. Draghi must know Italy desperately needs stronger NGDP growth to help solve its bad debt problem as our friend Lars Christensen has shown in a “one graph”  version. If Italy doesn’t get it then the EU may soon suffer another exit.

Releasing the handbrake represented by the foolishly self-defeating 2% inflation ceiling would mean that none of this money growth is actually necessary but, hey-ho, that is the way of the world with inflation ceilings or inflation targets that morph into ceilings.

The Fedborg pushes for rate rises but, instead, will send them down

A James Alexander post

Jon Hilsenrath at the Wall Street Journal is an excellent journalist. He often scoops his peers by getting people to talk to him off the record. His main line is into anonymous Fed staffers in Washington – aka the Fedborg.

The Fedborg is the consensus of backoffice staff who have tirelessly argued for “normalization” of monetary policy, i.e. raising rates to historical norms despite massive evidence that inflation and nominal growth are miles below healthy historical norms. The Fedborg seems to believe that preservation of financial stability is more important than prosperity. The fact that time and again this elevation of financial stability over prosperity leads to financial instability seems to keep eluding them.

Hilsenrath’s story “Fed Officials Gain Confidence They Can Raise Rates This Year  in today’s WSJ probably moved markets. The yield curve shifted up a handful of basis points and the USD rose too – the index rose 30bps from 96.70 to 97.00

A rate increase could come as early as September if economic data hold firm

… Officials are almost certain to leave rates unchanged when they meet July 26-27, according to their public comments and interviews with officials. But the message in their post meeting policy statement could be that the economy is on a more solid footing than appeared to be the case when they last gathered in June, setting the stage for raising rates if the data hold up in the months ahead …

Such a message would get the attention of traders in futures markets, who see low chances for the Fed moving as early as September. In early June, traders on the Chicago Mercantile Exchange placed a probability of greater than 60% that the Fed would raise short-term rates by at least a quarter percentage point by its September policy meeting, according to the CME. The probability dropped sharply after a weak May jobs report and the June 23 Brexit vote and was just 12% on Monday.

As Hilsenrath weaves into his story, public comments by various hawkish regional governors have been again trying to talk up more rate rises than the market expects. But the chatter has had very little impact.

New news

So the un-named “officials” have given Hilsenrath his scoop. The officials have upped the ante and tried to get the market to take the regional governors more seriously.

The Fedborg is not at all happy that it keeps getting overruled by more sensible regional governors in alliance with more sensible permanent Fed members like Lael Brainard. So, the Fedborg stoops to spin pressuring markets and the sensible governors alike. We hope that the they will fail again, but what really needs to happen is a Kocherlakota “house cleaning” of these back office experts and their replacement with more rounded, sensible, evidence-based, pro-prosperity types. Or they could just recognise their errors and stop pushing financial stability that results in financial instability.

Although in the short term the Fed can often influence rates in the way they wish ultimately it depends on the market. The market ultimately will send rates down if the Fed tries to raise them now.