Double dip recession and the perverse math of GDP reporting
Remember when I said the following:
GDP as reported
From my view point point, the interesting bit about GDP is NOT inflation (i.e. real vs. nominal GDP), but rather the fact that the number which is reported is a first derivative. It is the change in GDP which is reported, not the actual number. And, this is significant because generally a business cycle troughs when the change in GDP goes from being negative for a significant period to being positive for a significant period. Equally, a business cycle peak (read recession) occurs when the change in GDP goes from being positive for a significant period to being negative for a significant period. So, it is the change in GDP that everyone cares about. But, reporting the change brings in a few statistical anomalies that are important.
This was a point I made in May in “Economic recovery and the perverse math of GDP reporting” when everyone was convinced the bottom was falling out, but I was predicting a fake recovery. It is the change in GDP that matters, not the absolute level. Well, the numbers work the same in both directions. And given the fact I see a double dip now as a baseline by early 2011, this makes Paul Krugman’s recent missive very much on point.
One thing that often becomes clear when we talk about prospects for next year — which worry me — is that there’s a lot of confusion over the timing of stimulus impacts. Even well-informed people will say things like “we’ve only spent a quarter of the money, so let’s wait and see what happens.” Menzie Chinn tried to get at this confusion recently; here’s my take.
Let me work with a stylized numerical example. It doesn’t quite match the real stimulus — there’s no distinction between spending and tax cuts, and it tails off much faster than the real thing. But I think it’s close enough to make the point. Here’s the table:
In the table, “Rate” is the total stimulus spending within each quarter. “Change” is the change in stimulus spending from the previous quarter. And “Cumulative is the total spending to date.
Translation: it’s irrelevant what percentage of the stimulus spending has already been spent. That is not how GDP is measured. It’s the quarter-on-quarter change in GDP that is relevant – and government stimulus subtracts from the change in GDP starting in Q3 2010 (see column two above).
This is why President Obama’s explanation for his recent turn toward deficit hawk is misguided. He said he wants to avoid a double dip recession, but clearly this is baked into the cake unless he increases spending and/or lowers taxes. What’s more is fiscal year 2011 for states and municipalities will go into effect at just that point – and with a huge deficit looming, that translates into another massive reduction in spending or a huge increase in taxes or both.
If the recent spectacle of government handouts to big Pharma and the banks via GSE mortgage market intervention give you that warm and fuzzy feeling about the efficacy of stimulus, then you’ll want to see some serious additional stimulus to prevent this coming train wreck. Otherwise, brace yourself for serious economic problems in the U.S. starting in the second-half of 2010 – just in time for the mid-term elections. And given already high levels of unemployment and fragile asset markets, expect serious carnage in both the real and financial economies.
Now Krugman and you ignore the purported aim of stimulus, to generate private spending and “jump start” the economy via the multiplier. The multiplier effect is not included in this table. I’m not defending that angle, just making a note that the theory of TTT (targeted, timely and temporary) has not changed with the change of name to “Recovery and Redevelopment,” and it’s supposed to generate spending going forward.
The multiplier has been hosed down, I think, by private debt and insecurity. What is needed is something that will restart investment, and that is not a two-year plan, but a twenty-year plan. I think we have some climate change or infrastructure problem here somewhere that could provide actual productive opportunities for investment.
Or maybe we should restart housing. Yeah, that’s it.
Or seriously, maybe we should look at stopping the huge negative stimulus from collapsing state and municipal budgets.
Demandside, we ignore nothing there at all. We all agree that fiscal stimulus will have a positive effect in jump starting private spending – the main reason both Krugman and I argued for stimulus in January, by the way.
Nevertheless, that stimulus’ impact will be more muted in future than many might believe – as Krugman demonstrates.
There’s nothing perverse about this math. If it was at all possible, the administration would have thrown all 800 billion into the first 4 quarters.
The point is to help the private sector pick itself up.
If that happens, none of this math would matter because the overall growth would be positive, with the growth in the private sector outstripping the fall in stimulus.
If it doesn’t happen, we may need more stimulus, but that would be evident even if we didn’t go through any of this math.
It’s more perverse than you state. You can use monetary flows (MVt) or our means-of-payment money, times its rate of turnover, to compare (using the first derivative) to real-output, inflation, or nominal gdp. It works fine, but like you state, its deceptive.
However you can be much more precise. The rates-of-change in (MVt) should always be measured with the same length of time as the specific economic lag (as its influence approaches its maximum impact (not date range); as demonstrated by the clustering on a scatter plot diagram), and not to any of our federal government agencies’ weekly, monthly, quarterly, or annual statistics.
I.e., contrary to economic theory, and Milton Friedman, monetary lags are not “long and variable”. The lags for monetary flows (MVt), i.e. proxies for (1) real-growth, and (2) inflation, are historically, always, fixed in length. However the FED’s target, nominal gdp, varies widely.
You can’t construct a time series without comparable figures. The FED certainly has not been cooperative in supplying comparable figures.
If the catalogue of facts and their measurements (1) don’t correlate, (2) consistently compare, or (3) conclusively prove; the validity of a one’s arguments (theory), then there is a higher probability that the FED’s data is wrong, rather than the time series, or the theory supporting it.
I.e., Real-output spikes in Jan., bottoms in May, and the economy finally reverses in Oct. Increasing rates of inflation expectations will stop at the end of Mar. The markets are going to struggle through this
The solution to our immediate economic problem is to lower the remuneration rate on excess reserves. To revive the economy in the longer-term, we need to execute the same policy as pursued in the housing crisis of 1966 -which was a credit phenomenon).