In “Falling Dollar Phobia,” Paul Krugman writes:
And why, exactly, should we regard dollar decline as a problem? It helps exports — and export booms are the normal way countries emerge from financial crisis. Dollar declines haven’t brought woe in their wake in the past: neither the huge decline after 1985 nor the sustained decline during the Bush years — both of them dwarfing anything we’ve seen recently — brought catastrophe; in fact, both were associated with OK economic growth and mild inflation.
Previously I wrote about how we shouldn’t worry about hyperinflation because of the Fed’s decision to keep interest rates low at just .25% for over 2 years. However, this still doesn’t mean that the dollar’s slow but sure depreciation isn’t a problem that needs to be dealt with. Below is a graph I took from the St.Louis Federal Reserve database of economics indicators; it displays a time series of the trade weighted exchange rate index between the U.S. Dollar and the currencies of the U.S.’s major trading partners.
As you can roughly see, the dollar really hit its absolute maximum during March of 2002. Then it took a precipitous fall until midway of the current recession, where it appreciated to a local maximum (though nowhere near where it was originally at its peak) and then continued to fall. Because the dollar has been falling for almost the last decade I’m going to go ahead and say that the dollar’s depreciation is not transitory, but rather chronic.
Krugman is a fucking idiot. If this dollar depreciation continues there will be more frequent commodity bubbles (like we’re having now, especially with oil), higher input costs for American manufacturers, and the erosion of the average American’s purchasing power parity. I highly doubt that the decline in the dollar’s exchange rate will lead to any sustainable export boom as Krugman suggested. In order for the exchange rate to matter enough for us to become an export economy is for the dollar to be so worthless that Americans are forced to significantly lower their standards of living and U.S. businesses are willing to stop outsourcing certain manufacturing production chains. I’m not sure why that’s good. In the end, it just punishes the American consumer.
However fucked up the decline of the American currency is, there may be nothing we can do about it. Its decline probably has to do with the web of intricacies that constitute the economic performance and growth of this country. As Felix Salmon points out:
US workers are massively overpaid compared to their equally-productive and well-educated counterparts in countries all over the world. There are a number of ways that the discrepancy can be narrowed: wages in countries from Slovenia to South Africa could go up; US wages can go down; or the dollar can simply depreciate. Which is a lot easier than nominal or even real wage cuts.
None of this is under the control of the Treasury Secretary or anybody else, no matter how often he repeats that a strong dollar is in the national interest. And the clear implication is that the dollar is going to continue to weaken for the foreseeable future. That’s not going to do much if any harm to the US economy. But it does add a certain amount of fuel to commodity-bubble fires.
Ian Fletcher, senior economist at Coalition for a Prosperous America, writes:
What kind of industries are worth protecting? The kind of high value, high wage, high technology industries that have a future. The whole point of protectionism is to capture better jobs; there’s no point capturing junk jobs or jobs whose capture will cost consumers more than they are worth.
A flat tariff would avoid the danger of getting stuck with a tariff policy that made sense when it was adopted but gradually became an outdated captive of special interests over time. Although it would be a fixed policy, it would not be fixed in its effects, but would automatically adapt to the evolution of industries over time.
In 1900, for example, such a tariff would have protected the American garment industry from foreign (then mostly European) competition. It wouldn’t do that today, as a 30% cost advantage isn’t enough to protect an industry whose production cost consists mostly in cheap unskilled labor. But it is enough to protect high-value, high-skill industries whose production cost is mainly capital, know-how, and skilled labor. These industries are what we need.
First off, industries that requires the protection of tariffs to stay alive shouldn’t exist. The only industries “that have a future” are those that are able to stay naturally competitive by creating value for the consumer. Come to think of it, the only “high value, high wage, high technology industries” that are worth their salt can take care of themselves. When was the last time you had heard high-tech driven companies like Apple, Microsoft, Google, Intel, Texas Instruments, etc. ask for the protection of tariffs? If anything, it’s these same companies that would be hurt by tariffs because their products are rarely manufactured by inputs made in a single country. For example, a post on the VoxEU blog details what all the inputs that go into an Apple iPhone are and where they surprisingly all come from. That nifty camera module in the iPhone apparently comes from a German company called Infineon, and its Bluetooth comes from an American company called Broadcom. If there was a tariff on the intricate web of inputs that make up Apple’s products I probably wouldn’t own one because it would probably be too expensive.
What’s more, protectionism by way of tariffs will not lead to bringing back or creating jobs. It just lowers the purchasing power of those that they are punishing. We are all familiar with the reason why many businesses have outsourced or terminated manufacturing jobs in the U.S.; it’s the cost of production. If cost of production is at the center of why companies outsource certain manufacturing employment to other countries, tariffs will not remedy the problem. American manufacturing labor will continue to be expensive and rise production costs. If tariffs were enacted to bring factories back to the U.S., I’d go so far as to say those factories probably wouldn’t employ many Americans. Companies running those factories would do their best to automate them while utilizing as little labor as possible. Why? Those that make up the manufacturing labor in the U.S. think they are worth more than they really are and end up unionizing to the point where they try to bully their employer for unreasonable salaries and compensation.
It’s pointless to associate a product with where it’s manufactured. When I think of computers and processors, I think of Apple, Hewlett-Packard, Dell, Intel and AMD; not China. When I think of losers who dress in preppy clothing, I don’t think of Bangladesh or the Honduras, but rather American Eagle and Ambercrombie & Fitch. Companies do their manufacturing in places they find strategically sound. If conducting manufacturing outside the U.S. is not beneficial to businesses or their consumers, tariffs will not protect them by magically showing them the light. For example, Michael Hiltzik does a great job detailing how Boeing totally fucked up by outsourcing the manufacturing of its 787 Dreamliner to China. Even Felix Salmon, one of my favorite bloggers, writes,
The lesson here is that Boeing executives, just like most of the rest of corporate and political America, were incredibly bad at pricing moral hazard and tail risk. Outsourcing is a bit like taking collateral from your repo operation and investing it in subprime credit. Most of the time, you make a small amount of money — and then, occasionally and unpredictably, you lose an absolute fortune. Boeing was picking up pennies in front of a steamroller, and ended up getting crushed.
Like Boeing, other companies need to learn and determine on their own where and how they do their manufacturing. Tariffs shouldn’t be another factor in their complex decision making process.
Today the Federal Open Market Committee released a statement that pretty much summarized what most economic indicators are pointing toward with regard to the economic recovery. More specifically, the part I am referring to is:
Information received since the Federal Open Market Committee met in March indicates that the economic recovery is proceeding at a moderate pace and overall conditions in the labor market are improving gradually. Household spending and business investment in equipment and software continue to expand. However, investment in nonresidential structures is still weak, and the housing sector continues to be depressed. Commodity prices have risen significantly since last summer, and concerns about global supplies of crude oil have contributed to a further increase in oil prices since the Committee met in March. Inflation has picked up in recent months, but longer-term inflation expectations have remained stable and measures of underlying inflation are still subdued.
Personally, I think the only economic indicators that reflect a recovered economy are the employment indicators. After all, who gives a damn about increases in household spending and business investment if people don’t’ have jobs. Just the other day I was driving and my oh so sweet-cheeks girlfriend says the economy is recovering, using PricewaterhouseCoopers’s (which is where she interns, bless her little heart) shopping spree for new employees as an example. She was probably referring to this. So, the only words I was really only concerned about in that statement were, “overall conditions in the labor market are improving.” Unfortunately, the employment is nowhere near recovered and probably won’t be for a while. But what exactly constitutes an employment recovery?
Take a look at the graph above (which took me a bunch of fucking code to make, so fucking like it!). Some people may disagree, but my version of an employment recovery would be non-farm private payroll employment equaling its hypothetical level at any given time had there been no recession. So how did I determine that hypothetical level? First off, I determined that hypothetical level using a simple linear relationship with data running from September 2003 to January 2008, separated in months. I specifically chose that time frame because those were the boom years right before the recession hit and private payroll employment hit an inflection point and then started heading south. This is key because As of March 2011, the hypothetical level of private payroll employment we should be at is at over 121 million. However, the actual level of private payroll employment as of March 2011 was only a little over 108 million. That’s a gap of over 13 million jobs that need to be recovered, which will take years and years and years. So, going back to what my girlfriend said about PwC hiring; who gives a fuck!?!?!?!? Companies hiring new employees does not mean there is a meaningful economic recovery! The problem is that they aren’t hiring enough employees to make up for the lost time when labor wasn’t being hired. Now there’s a combined glut of labor that was employed, but is now unemployed, and labor that was never hired when they should have been (like retard kids out of college).
Congress better reconsider extending those unemployment benefits and Ben Bernanke better keep those interest rates down!
Banks are hoarding way too much fucking money these days. According to the graph underneath, the banking system was holding over $1.362 trillion dollars in excess reserves at Federal Reserve banks as of the end of March 2011.
Before September of 2008, excess reserves at the Federal Reserve banks never exceeded $20 billion and were usually under $2 billion. That $1.362 trillion dollars that banks have decided to hoard are collecting .25% interest from the Federal Reserve. Just to put how large this $1.362 trillion dollars is into perspective, the U.S. M2 money stock (broadest measure of the money supply) stood at about $8.928 trillion as of April 11th, 2011. Now, get this: those excess reserves, which have a ratio of 15% of M2, aren’t counted in the money supply of this country. This is scary because once the economy starts to pick up some steam, and banks find a more lucrative investment for that money, those excess reserves will become part of the money supply, and there will be another massive bubble. I just wonder what that bubble will be this time.
There has been a great deal of media hype within the last year regarding a massive skyrocketing in inflation, and in some crazier instances, hyperinflation. Because the Federal Reserve has been keeping the federal funds rate at about .25% since 2008, some economists and politicians are afraid that the money supply will grow by so much that our currency will one day be worth dirt. I’m going to have to disagree.
First, I want to define what inflation actually is. In its most lucid description, inflation is the rise in cost of goods and services because demand for those goods and services outstrips their supply. The consumer price index (CPI) is used to measure inflation in prices of a basket of goods and services, where each good and service within the basket is given some weight. So if I assume that if demand exceeding supply leads to greater inflation, then aggregate growth of disposable personal income within an economy is a pretty good indicator of how much demand there potentially is for the goods and services within that economy. More disposable income would obviously lead to more spending, and hence more inflation. Therefore, growth in the CPI should closely follow grow in aggregate disposable personal income.
Below is a scatter plot denoting the logarithmic relationship between the aggregate U.S. disposable personal incomes versus the CPI (less energy). I logarithmized the data because I was interested in comparing relative values versus absolute values. The data was partitioned by month, starting from January 1959 to February 2011 (626 months). I took all data from the St. Louis Federal Reserve database of economic indicators. Given its historical volatility and impact on the CPI, I decided to leave out energy. If you disagree, then fuck you. Just Kidding! Anyways, as you can see from the scatter plot the relationship between aggregate disposable personal income and the CPI seems highly correlated. Hell, they seem to be damn near dependent (I wrote “seem” and not “is”).The table below is a description table of the simple linear relationship between the two variables. Both the y-intercept and disposable personal income coefficients are displayed, and are statistically significant. I say they are statistically significant because their probabilities of being insignificant are almost zero. The coefficient of determination is also extremely high, being .993 (almost 1), reinforcing the strong correlation between the two variables. Most importantly, the beta coefficient (aka, slope) of the disposable personal income variable is approximately .6237. Remembering that there is a logarithmic transformation of the data, the interpretation of this beta coefficient is that for every 1% increase in aggregate personal disposable income within an economy, there is a 62.37% increase in inflation (as measured by the CPI). Wow, that’s a huge increase! But wait; is a 1% increase aggregate personal disposable income reasonable? Fuck no it’s not!
A time series line graph of aggregate personal disposable income over the last 626 months starting from January of 1959 to February of 2011 is listed below. Aggregate U.S. disposable personal income has noticeably grown considerably over time. But how does it generally grow on a month by month basis? Underneath the line graph is another table summarizing the simple linear relationship between percentage changes in aggregate disposable over time, in months. Referring to the table, the beta coefficients are again statistically significant and the simple linear model has a very strong coefficient of determination. The beta coefficient of interest is that of the month variable; it is about .002. That means for each new month there is an expected increase .2% increase in aggregate disposable personal income within the U.S. So what does that mean? That means that .002 multiplied by .6237 (this is the coefficient from the simple linear relationship between aggregate disposable personal income and the CPI) is only .001247. What does .001247 mean? It means that for an expected increase of only .2% month-to-month increase in disposable income there will be a .1247% increase in the CPI. Unless economists and politicians expect massive increases in our salaries, wages, commissions, or any other income streams we may have, a .1247% increase inflation does not sound like a massive surge in month-to-month inflation.
Just because the Federal Reserve has been, and will continue to be, printing money like crazy, does not mean our disposable incomes will grow super fast. If our disposable incomes did grow super fast because of Bernanke’s dollar bill printing press that would be awesome and wouldn’t receive any complaints from me. But, growth in disposable incomes only happens with real economic growth. Anyways, I hope you now believe me that there won’t be any huge spikes in inflation, especially hyperinflation.