Key Indicator of Prior Quantitative Easings

There continues to be talk as to whether the Fed will implement another round of quantitative easing in the coming months (QE3).  What indicator should one watch to determine if QE3 is on the way?  Here's a chart of the break-even inflation rate on five-year treasuries:

Break-even inflation is the difference between the yield on the five-year US Treasury bond and the five-year TIPS (Treasury inflation protected security).  The yield on TIPS represent the interest earned apart from inflation, to which enough interest to cover inflation is added to one's return.  The difference between traditional Treasuries and TIPS is the amount of inflation necessary to result in an equal yield between the two securities (break-even inflation).  It gets a little complicated, but expected inflation is less than break-even inflation since an inflation risk premium is implicitly part of break-even inflation.

Back to the main point.  one of the Fed's main goals is to keep inflation at about 2% (that's it's inflation target).  You'll notice two periods during which break-even inflation declined significantly.  Of course the first time was at the depths of the financial crisis in late 2008, when break-even inflation collapsed to -2%.  The collapse in inflationary expectations was one reason the Fed engaged in the first round of quantitative easing.  The second instance was not as dramatic, but took place in the summer of 2010.  After reaching a short-term peak of about 2% earlier in 2010 (2.16% in January, 2.01% on April 30), break-even inflation experienced a significant decline to 1.22% in late August.  What stopped the decline?  Break-even inflation bottomed out and began to rise when Ben Bernanke laid the groundwork for QE2 at a speech in Jackson Hole, Wyoming.  Thus, both QE1 and QE2 were preceded by market perceptions of deflation or that inflation would be exceedingly low.  Does that exist today?  As the chart shows, break-even inflation is relatively stable (about 1.9%), indicating that QE3 is unlikely at this time according to this indicator.

Monkeys and unequal pay

How do monkeys react to unequal pay?  Here's a link that I found on Greg Mankiw's blog.

July Job Report for Florida

The Florida job market worsened in July as the state lost 3300 jobs and the unemployment rate rose to 8.8%.  Job losses were spread across various industries, led by wholesale trade and local government, both down 3100 for the month (seasonally adjusted).   Industries that added jobs included employment agencies (temps) and amusement parks.  In fact, employment agencies have experienced an increase of 27,200 jobs over the last year (an 18% increase), which represents nearly 40% of the net increase in overall jobs statewide.  Number two in terms of adding jobs over the last year was food and accomodation places, with an increase of 11,500 while the industry shedding the most jobs was state government, down 6300 since July 2011.  Overall, the private sector has added 7800 jobs thus far in 2012, while the public sector lost 9600, resulting in a net loss of 1800 jobs so far this year.  Meanwhile, the labor force declined slightly, reducing the labor force participation rate to 60%.  The decline in the participation rate is responsible for about a third of the decline in the unemployment rate this year.

The unemployment rate for metro Orlando rose to 9.1% from 8.7% in June.  About half of the increase was due to seasonal factors.  The government releases its estimate of the seasonally adjusted unemployment rate for metropolitan areas several weeks after the main job report.  It's likely that the seasonally-adjusted rate rose from 8.5% to 8.7%.  Orlando lost 5500 jobs in July and now reports a one percent increase over the past year, the same as Florida with both lagging the country, which posted an increase of 1.4%. 

What's the takeaway from this report?  Both the state and local economy continue to struggle to recover from the Great Recession, with job markets that continues to be quite weak.

July Employment Report

This morning's job report surprised many people on the upside.  Though it was an OK report given the recent performance of the economy and labor market, there's still evidence of some distortions due to seasonal adjustments.  When the January employment report was released, I delved into the details and noticed an upward bias due to seasonal adjustments (see commentary).  Since then, I've been looking forward to the July report to provide further evidence of the effect of new seasonal adjustments.  Basically, seasonal adjustments are designed to remove the impact of employment patterns that typically occur at certain points in the year and are determined by prior trends (i.e., employment patterns from July 2011, July 2010, etc., are used to estimate the seasonal adjustments used for July 2012.  The Great Recession distorted the seasonal adjustments resulting in the economy appearing stronger in the Winter months followed by slowdowns in the Spring and rebounds in the summer.  For July 2012, if the average seasonal adjustment for 2002-2009 was used, this morning's report would have shown an increase of 122,000 jobs, 41,000 less than officially reported.  In fact, the seasonal adjustment for July was the most generous in the past decade (I only checked the data post-2000).  While seasonal adjustments are necessary to understand what's going on in the economy, unfortunately, seasonal adjustments in recent years have actually been somewhat misleading.

Moving on, the report shows a sluggish economy that is still growing.  Negatives tended to be seen from the household survey including the increase in the unemployment rate to 8.3%; increase in the "real" unemployment rate (U6) to 15%, decline in the employment-population ratio to 58.4%, and the decline in the labor force participation rate to 63.7%.  Given the sluggish job market, average hourly earnings have increased by 1.7% in the past year, resulting in almost no increase after inflation (PCE inflation is running at about 1.5%).

The main takeaway from this report is that the economy continues its weak recovery from the Great Recession.  With economic growth of under 2%, it's hard to imagine employment growth picking up or unemployment declining any time soon.  Still, it signals a weak recovery rather than a slip back into recession.

Brief Look at Income and Spending in June

Yesterday, the government released its estimate of consumer spending and income for June.  The bad news is that consumer spending has been flat recently, but the good news is that incomes adjusted for inflation are rising somewhat, which should help sustain consumer spending down the road (reversal of earlier this year).  The savings rate rose to 4.4%, reflecting in part revisions to previous data (the government made revisions for the past 3 years based on more up-to-date information).  What do we learn from this?  It's more of the same.  No recession barring another shock, but consumer spending should be able to plod along during the rest of the year.  As mentioned in several previous posts, other factors will impact consumer spending including the fiscal cliff and the global economic slowdown.

In addition to income and spending, the report provides what's considered by most to be the best measures of consumer inflation.  Inflation based on the PCE index is now running at 1.5% over the last year, while core inflation (exlcuding food & energy) is 1.8%.  Inflation has slowed from a moderate pace to almost nonexistent in recent months.  In fact, in the second quarter of 2012, PCE inflation was -0.3% (annualized rate) while core inflation was more stable at a 1.8% annualized rate.  Economists tend to be criticized for discussing core inflation; many consider it a way of ignoring higher inflation.  The recent behavior of inflation is one reason that most economists think that it's a better gauge of short-term inflation trends than overall inflation as overall inflation bounces around due to significant fluctuations in food and energy prices while core inflation better reflects underlying trends.  Given that, inflation seems to be running a little low (less than the Fed's target of 2%), but there are no signs of deflation any time soon.  That will probably make the Fed hesitant to engage in QE3 at this time.

First Look at GDP for the Second Quarter

The government released its first look at GDP for the second quarter of 2012 along with revisions to estimates from previous years.  Economic growth in the Spring was 1.5%, close to expectations and confirming the sluggishness economy.  Business investment in equipment led the growth, rising 7.2% followed by exports, which rose by 5.3%.  A minor plus was an increase in consumer spending on services, which rose 1.9% (not strong, but more than any quarter since it rose by a similar amount in 2011Q2.  Both consumer purchases of goods and business investment in structures weakend considerably, and were the lowest growth rates in a year.  Government purchases also continued to be a drag on the economy.  Removing inventories, final sales grew by 1.2%, the slowest rate since early 2011.  Inflation as measured by the PCE index declined to 0.7%, the lowest rate since Spring 2010.  Over the past year, inflation has been 1.6% while core inflation has been 1.8%.

As is customary, the government revised prior data based on new information.  The recession was slightly less severe, "only" a decline of 4.7% (still the largest decline since the Great Depression), and the initial stage of the recovery was weaker than initially reported (2.4% growth in 2010 instead of 3%).  Much of the downward revision for 2010 was due to more moderate increase in equipment investment than previously thought.  The economy came very close to shrinking in the first quarter of 2011, with growth not reported at a 0.1% annualized rate, but rebounded in the second quarter, growing 2.5%, nearly double the prior report.

The two strongest quarters of economic growth since the end of the recession were the fourth quarters of 2009 and 2011.  In both cases, much, if not all, of the growth was due to a sruge in inventories and thus were not sustainable.  In 2009Q4, the economy grew by 4%, but if you subtract the impact of inventories, it actually declined by just over 0.5% while in 2011Q4, the economy grew by 4.1%, but only by 1.6% once inventories are excluded.

What did we learn from today's report?  Revisions to previous data still show a severe downturn in 2008-2009 followed by even a more modest recovery than previously reported in 2010.  Data for the second quarter of 2012 still show an economy that is growing, but quite slowly.  Corporate profits declined in early 2012 for the first time since 2011Q1.  After boosting profits for years, overseas profits declined by the most since the recession, reflecting the global slowdown including the recessions in Europe.  What happens to the economy in the rest of 2012 depends on whether consumers and businesses are strong enough to offset problems from overseas (and from Washington, DC!).  As of now, it looks like a continuation of slow growth.

June Job Market Report: Florida & Orlando

The latest look at the state and local job market presents more of the same: sluggish job growth.  Florida's unemployment rate was unchanged at 8.6% while Orlando's unemployment rate (not seasonally adjusted) rose to 8.7% from 8.3%.  Though unemployment statewide is declining, the weak labor force participation has exaggerated the decline.  Though Florida's noninstitutional adult population grew by 216,000 in the last year, the labor force grew by only 33,000, reducing the participation rate to 60.1%.  If the participation rate had remained stable over the last year, the unemployment rate would be 9.5% (down from 10.7%, but significantly higher than the official rate of 8.6%).  Florida added 9000 jobs in June (seasonally adjusted) and nearly 71,000 over the last year, which represents an increase of 1% (a slighter faster rate than experienced in recent months).  Industries showing the largest gains include wholesale & retail trade (6600), professional & business services (5600), and leisure & hospitality (4200).  The losers were led by construction (5300), manufacturing (3000) and private education services (2800).

Does the increase in the unemployment rate in Orlando indicate a worsening of the local job market?  Though national and state data are seasonally adjusted, local data is not.  However, the BLS (Bureau of Labor Statistics) releases estimates of seasonally adjusted (SA) unemployment rates for metropolitan areas with a one month delay.  Orlando's seasonally adjusted unemployment rate in May 2012 was 8.6% (as opposed to 8.3% not seasonally adjusted).  Based on seasonal adjustments in previous years, the June rate is probably about 8.6% (SA), indicating little, if any, change in the unemployment rate.  Over the last year, employment in Orlando increased by 1%, matching that of the state.

What's the primary takeaway from the report?  Employment growth in Florida remains sluggish and weaker than the nation, but the year-over-year rate of growth has increased a little (a little good news)!