On Wednesday, January 20, 2010, the New York Association for Business Economists held its annual forecasting meeting. The speakers were Jan Hatzius, Chief U.S. Economist at Goldman Sachs and Stephen Gallagher, Chief U.S. Economist at Societe Generale on their forecasts for the U.S. economy, and Joyce Chang, Global Head of Emerging Markets and Credit Research at JP Morgan.
As I used to do what Hatzius and Gallagher are doing, I can critique their presentations. For those who are unfamiliar with how the macroeconomic forecasting community works, I’ll put it in context toward the end. I have little experience with emerging markets, but Chang made a very interesting point that I’ll convey.
I focus on Hatzius’s presentation because he approached the forecast as I would. He also had a nice set of charts and tables. I no longer have access to the databases and other tools that are necessary to make good judgments so I appreciate his work.
Hatzius is forecasting U.S. real GDP growth in 2010 of 2.6%, lower than the consensus of 2.9%; little or no growth in employment, meaning the unemployment rate peaks around 11% late in the year. The Federal Reserve leaves the policy interest rate near zero, i.e., no Fed tightening.
The economy rebounded to 2.2% growth in the third quarter, and an estimated fourth quarter of nearly 6% (first official estimate for the fourth quarter will be Friday, January 29; but much partial data is available, so it is an accounting estimate, not a forecast). The entire explanation for the upturn involves the contribution of fiscal stimulus and the accompanying reversal of the inventory drawdown. Fiscal stimulus added two percentage points in the second quarter of last year, three in the third, down to 2 in the fourth through second quarter of this year. The end of fiscal stimulus (assuming no new packages) turns the federal government sector into a drag on the economy in the fourth quarter of this year.
The inventory cycle, which subtracted from growth in the first half of last year, added about a percentage point in the third quarter and a large 4 percentage points in the fourth quarter, down to about a percentage point in the first half of 2010, after which the inventory cycle is neutral.
The combined contribution to growth was 4 percentage points to the third quarter’s 2.2% (meaning the economy would have declined in their absence), and all of the 6% expected for the fourth quarter.
Technical note: The inventory cycle would not have reversed were it not for fiscal and monetary stimulus, but presenting the figures this way allows for clear accounting of how the economy turned around.
The reasons for sluggish growth have been well discussed at FDL and acknowledged by Hatzius.
1. Little or no growth in employment, as in the first years of the two prior recoveries, and the inability of consumers to borrow in light of underwater mortgages, foreclosures, etc., a reluctance of financial institutions to lend.
2. A weaker-than-normal rebound in homebuilding owing to the continuing mess in that sector.
3. State and local government budget pressures.
4. Constraints on lending to small business; problems in commercial real estate which are in their infancy.
My question, which I didn’t get a chance to ask, is why any growth at all? Why not a double dip after the stimulus, and its indirect influence on the inventory cycle, wears off?
The answer involves some fine calculations about household income which I no longer have the tools to do. In an after-meeting conversation with a friend who does do those calculations, she told me that you can get some growth in aggregate income by noting that weekly hours of those at work start to rise in advance of employment. That is accurate. It hasn’t happened yet, but it’s probably around the corner.
I remarked that the economy is poised on a knife edge, and she agreed. The modest growth in income that is projected could easily be counterbalanced by a rise in the household savings rate. If that happened, consumer spending, the economy’s engine, would decline, taking the whole economy with it.
Gallagher has a forecast that is slightly more optimistic than consensus, growth a bit above 3% this year. His arguments were unpersuasive, some of them circular. For example, employment growth was only stagnant in the first years of the past two recoveries because the economy was sluggish he noted. But the economy was sluggish because of the lack of employment growth. He also asserted that to have a really sluggish recovery means that you’re saying “this time it’s different,” a frequent mistake that economists make. But even his forecast is well below what would be a “normal” first year, over 5% in the recoveries before 1991. And it was “different” in the past two cases: 2.6% in 1991, and 2.2% in 2002. (Factors like the degree of monetary and fiscal stimulus, larger now than in the prior two cases, and the effect of 9/11 in the last case, should also be considered.) The “optimistic” case is weak and not very optimistic anyhow.
Chang’s presentation on emerging markets made a big deal out of the fact that emerging markets in aggregate weathered the global financial storm much better than G3 (apologies to Iceland and a few others). My words, not hers, but it seems she thinks they’ve learned about disaster capitalism. Resource producers have set up funds when resource prices are high to tide them over when prices drop. Accumulation of a gigantic amount of reserves (think China, India, but apparently it’s more widespread) insulates them from financial market gyrations and allows them to thumb their noses at IMF and World Bank dictates. It is certainly a sad state of affairs when the poor have to double-save to protect themselves against predation from the rich, while the rich squander. But a better state of affairs than if they didn’t do that.
Some context for economic forecasts coming from financial institutions. Anticipating questions about the honesty and self-serving nature of these forecasts, economists’ forecasts are a different animal from those made by analysts who cover stocks. I experienced no pressure to forecast one thing or another. It’s been nine years since I did that job, and Wall St. has changed dramatically for the worse since then. But economists’ forecasts have no direct bearing on the business of the corporation, so no reason to pressure them. And Hatzius approached the exercise much as I would have; he passes my smell test.
Some final notes. There was a lot of talk about how amazed they were at the speed of recovery in financial markets, but did not dwell on that. One questioner asked about the next bubble and Chang noted some real estate possibilities in Asia. There was NO talk about the U.S. political implications of the forecast.