Economic optimism mounts: Krugman, Klein, and Harding

There is a growing sense of optimism around the US economy, as evidenced by both the general beliefs of people and the particular beliefs of experts.

First, the most recent measurement of consumer confidence is reported to have hit multi-year highs (primary source; this secondary source includes historical data). This measure is important because it is a gauge of the broad, general beliefs of people.

Second, a less exacting evaluation of particular economic experts — ones with strong recent track records as macro-economic informants — shows increasing optimism. In this post I will touch on three: Paul Krugman at the NY Times, Ezra Klein at the Washington Post, and Robin Harding at the Financial Times.

First some background. In the past month the yield on a ten-year US treasury has risen almost 25 percent, as the Fed has ever so slightly indicated an interest in “tapering” its stimulative bond purchases. The FT reports that “[b]ond investors suffer as QE fades”:

Every one of the most popular class of US mutual funds investing in bonds lost money in May, highlighting the risks for investors as interest rates rise.

Bond yields around the world soared from some of the lowest levels in decades last month as investors anticipated an end to the extraordinary measures the Federal Reserve has used to stimulate the US economy.

The question Paul Krugman and Ezra Klein ask: Are interest rates rising because of a fear of a US sovereign debt crisis (a la Greece)? Because of some other ominous reason? Or because of a different, more pro-growth reason? I’ll quote Klein:

If investors had grown fearful of a Greek- or Spanish-style debt crisis, then the rise in bond yields would likely have been accompanied by a falling stock market. Instead, the Standard & Poor’s 500 index is up 4.7 percent since May 1.

In Klein’s take,

the final explanation that seems to best fit the evidence [is] …. [i]nvestors are becoming more confident that growth will be solid in the years ahead and thus persuade the Fed to hike interest rates a bit sooner than seemed likely. In that case, for longer-term Treasury bonds to be fairly priced, they would need higher rates, as well. If this explanation is true, then the slight uptick in interest rates from such low levels shouldn’t be enough to undermine the nascent housing recovery. [emphasis added]

Krugman provides a similar analysis:

So when long-term interest rates rise, there are three main stories you hear. One is that the bond vigilantes have arrived, and are selling US debt because they now believe in the horror stories. Another is that the Fed has changed, that it may be ready to snatch away the punch bowl sooner than previously believed. And the third is that the economy is looking stronger than expected, which means that the Fed, although just as soft-hearted as before, will nonetheless start raising rates sooner than previously believed.

All three of these stories would imply falling bond prices, that is, rising interest rates. But they have different implications for other markets, in particular for stocks and the dollar. Debt fears — basically, a run on America — should send stocks and the dollar down along with bonds. A perceived tougher Fed should send stocks down but the dollar up. And a better recovery should send both stocks up (because of higher expected profits) and drive the dollar higher.

. . .

And while day by day there are variations, basically what you see over the last month or so is line 3: falling bond prices accompanied by rising stocks and a rising dollar. So this looks like a story about macroeconomic optimism. [emphasis added]

What about the US economy would trigger such optimism? What would lead us to anticipate private-sector growth?

There are a number of reasons for optimism.

Indeed, Robin Harding, in the Financial Times, recently saw fit to predict that the 2014 US economy would see greater than 3 percent GDP growth. In a column headlined “Get ready, America – the economy is about to take off,” Harding details five reasons to anticipate solid growth:

1. The deficit is falling at a significant pace.

Take fiscal policy, a prime cause of disappointing growth for the past three years. From the argument over whether to raise the federal debt limit, which sucker-punched the economy in the summer of 2011, to this year’s $85bn in across-the-board, sequestration cuts to public spending, US politicians have consistently done more harm than forecasters had anticipated.

It will be harder for them to mess things up this year. The deficit is now so much lower – forecast at 4 per cent of the economy this year, compared with more than 10 per cent in 2009 – that it may even be eclipsed as the sole issue driving politics. The moment for a deficit cutting “grand bargain” is gone.

For the first time since 2009, there is a higher chance that fiscal policy will add to demand in 2014 than subtract from it. There would be a fiscal boost in the quite plausible scenario that Congress feels some pain and cancels the sequestration.

2. The Euro crisis is a declining problem.

The eurozone crisis, which made itself felt during the summers of 2011 and 2012, drags on. Since Mario Draghi’s fateful pledge that the European Central Bank, of which he is president, would do “whatever it takes” to preserve the euro, however, markets have calmed down a lot

3. The housing market looks improved.

Meanwhile, the revival in housing weighs the biggest anchor on the US economy since 2008: the drag on consumption from households stuck with a big mortgage and a cheap house. Figures released by Corelogic this week showed a 24 per cent year-on-year decline in houses stuck in the foreclosure process. In two of the most important and troubled states – California and Arizona – the decline was more than 50 per cent.

Recovery in housing has a powerful accelerator effect. Higher house prices mean that more people have enough equity in their home to refinance at a low mortgage rate; do that and they can start spending more. It helps people to move house, creating demand for everything that goes with that – furniture, fittings and floral wallpaper – and it spurs new construction.

4. There is reason to think access to credit will improve or is improving.

Another noteworthy event this week came when Moody’s upgraded its credit outlook for the entire US banking sector from “negative” to “stable”. Now that the banks have enough capital, they are trying to find people to lend to: terms on commercial and industrial loans are loosening steadily.

5. The Federal Reserve remains committed to ensuring growth through monetary policy.

[The Fed’s] new policies tie easy money to the state of the economy – low interest rates at least until unemployment falls below 6.5 per cent and more asset purchases until there is a substantial improvement in the labour market outlook. This reduces the chance of a premature tightening.

The analyses of Krugman, Klein, and Harding because are based on data. Which is to say, their analyses could change to pessimism if new data present themselves. For right now, all in all, I share the optimism. In fact, I would add a number of other reasons for optimism, too. Soon I’ll post with my own reasons to anticipate a coming economic boom.

This entry was posted in 2007-2012, economic recovery, macro-economics, money and finance, qualitative sociology of economics and politics, the great contraction, the great contraction 2007-2012. Bookmark the permalink.

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