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Friday, June 08, 2007

The US Construction Puzzle

The FT this morning returns to the topic of the US labour market and the recent productivity performance. As they say:

A conundrum in construction lies at the heart of a US jobs market puzzle that continues to baffle economists – including officials at the Federal Reserve. After a year of sub-par growth unemployment is a mere 4.5 per cent. With jobs growth strong but output growth weak, productivity looks very poor.

Most economists think about these questions in whole-economy terms. But much of the explanation may lie in the single sector at the heart of the housing-driven slowdown: the US construction industry.

During the past year residential construction activity has plunged, but employment in this sector has hardly declined at all – at least according to the official statistics.

The FT itself offers three possible explanations for this conundrum:

a) companies are hoarding labour in expectation of a rapid rebound in the housing market. As they say his looks increasingly implausible as the housing correction drags on.

b) there is a time lag in construction and big job losses are just around the corner. Again following the FT, there may be some truth to this, but the slowdown has now been under way for quite a long time, and construction is normally a sector where employment levels respond quickly to changes in activity.

c) the official statistics may not be accurately capturing what is taking place in an industry that employs both a large number of small subcontractors and a large number of illegal immigrants.

The favoured explanation here at Bonobo would be the third one (although there are undoubtedly a number of factors at work.

Indeed, as highlighted in this post, there is some supporting evidence for this hypothesis in terms of the decline in the number of border crossings, and the decline in the volume of remittances being sent home. Both of these could be seen as proxies for the levels of employment of migrant labour.

So it seems that traditional methodologies may now be far from capturing the complete picture, and in something as important for the whole global economy as the US housing slowdown. How times have changed.

The FT cites David Seiders, chief economist at the National Association of Home Builders, to the effect that the BLS assumes that contractors’ hours rise and fall with those of residential building workers, whereas builders in practice let their contractors take the pain when business is slack, and ruefully notes:

If he is right, the decline in productivity in construction – and across the whole economy – may be smaller than the official statistics suggest.

Thursday, June 07, 2007

US Growth Forecast

This is interesting:

US growth will strengthen over the course of the year and exceed 3 per cent in 2008 and 2009, the Bush administration’s top economists said on Wednesday.

The twice-yearly forecast, by the White House Council of Economic Advisors, the Office of Management and Budget and the Treasury, puts growth at 3.1 per cent in both years – a fraction above the level most Federal Reserve policymakers now think is sustainable in the long run.

Now obviously simply making a forecast doesn't mean that it will happen, but as I note in this post, the US does seem to have been weathering the storm of the housing slow down. As I ask myself in the course of that post, could it be that the US actually had the "soft landing" (or notional recession, since GDP was growing less quickly than population, and per capita income temporarily slipped as a consequence) during the first quarter?

Certainly there are reasons for thinking this might be the case. Global growth is remaining incredibly strong, and the Fed have basically been able to sit there without touching interest rates. So what exactly would be the reasons for expecting the US to remain on a low growth path for some time to come? Certainly they are not clear to me, and back in January I was already hedging my bets and justifying why I thought the outlook was not so bleak as it appeared to some.

"In the past week, Goldman Sachs and Merrill Lynch – the leading proponents of the argument the Fed would cut interest rates aggressively later this year – have abandoned their positions."

Well it isn't only Goldman Sachs and Co, I had been arguing that it was likely that Bernanke would start lowering rates, and like the rest of them I think it is now time I abandoned my position. Having said this, what has been wrong footing us all has been the wave of growth in the newly developing countries and the capacity of ageing societies like Germany and Japan to modernise and make competitive their export sectors (and thus take considerable advantage of this surge in demand). As I say in this post, the challenge that faces us all now is to better understand why this is happening, and why it is happening now.

Wednesday, June 06, 2007

Momentum in Japan

As David Pilling in the FT notes this morning, the outlook for Japan appears relatively benign in the short term:

There are two main reasons for optimism. The first relates to international interest rates. Both the European and the US economies are fairly strong, making a near-term rate cut unlikely. Interest rates in Japan are rising, but extremely slowly. Headline prices are falling, making it hard for the central bank to fulfil its ambition of normalising interest rates any time soon.

The bank may well raise rates one more time in late summer to a still modest 0.75 per cent. But that is likely to be its last hurrah for several months. As a result, interest rate differentials will remain wide, encouraging investors to move money from Japan in search of more succulent opportunities abroad.

The second reason relates to political pressure. US and European manufacturers have complained that the weak yen gives Japanese companies an unfair advantage. The issue could come up on the margins of the Group of Eight meeting, which starts today in Germany. But few commentators believe that complaints will gain any traction.

Richard Jerram, economist at Macquarie Securities, says: “Politically, Japan is very safe. China is always going to be ahead of you in the queue of countries to complain about. So the risk of a protectionist backlash seems very low.”

Not that everything is plain sailing of course, but if the US really does start to gain momentum again, and the growth in world trade continues at something like the present rate then Japanese exports, which in the first quarter of this year accounted for 17 per cent of Japan's nominal gross domestic product, should keep driving things forward. This figure is a significant rise in comparison with previous historic highs and may be compared, for example, and according to Nikko Citigroup, with the 14.1 per cent achieved in the third quarter of 1985. As the FT goes on to say:

"Almost all economists agree that exports have been the main driver of Japan's five-year recovery. Over that period, the trade surplus has quadrupled from 1 per cent of GDP to 4.3 per cent."

and again from the FT, the rising expectation that growth in the important export markets will continue has been producing a feedback flow on inverstment which has offset the short term drop in machinery orders:

The weakening currency has made Japanese exports more competitive still and provided a windfall for exporters booking profits in yen. That in turn has spurred investment in plant and equipment. This week, strong first-quarter capital spending, up 13.6 per cent from a year earlier for the 16th straight quarterly rise, helped ease recent concerns about weak machinery order numbers.

And again all those lump-sum payments to retiring salarymen seem to be having some short term effect on domestic consumption which has been up slightly of late. As one correspondent in Japan wrote me:

Claus seems puzzled by economic information coming out of Japan recently. Specifically, what passes for good domestic consumption in Japan. Could this have anything to do with the Life Cycle? There have been articles in local papers about the spending of the newly and about to be retired: buying boats, cameras, country homes, going out to eat, etc.

I think the point here is that such spending following lump sum payments is largely one-off, and in the longer term it is still exports - whether of goods or services - which will not only continue to constitute fastest growing part of Japan's GDP, but which will also come to constitute a growing portion. So structurally, with Japan's ageing society, the Japanese economy has become dependent on exports for growth.

The data which has caught so much public attention recently relates, OTOH, to the income stream coming back to Japan from the growing overseas investments - and the part this plays in buoying up the current account surplus, but this is just the point, the numbers being bandied about relate to the significance as part of the surplus, and not as a proportion of the whole external account or of GDP, and this, surely, is the most appropriate measure.

Certainly a lot of Japanese savings have been going to external destinations, and this is then reflected in a growing inward income flow, but there are doubts about how this will evolve moving forward. Over the next three years as the baby boom salarymen retire and receive their lump sum bonuses which they then invest elsewhere in the search for higher yield we can expect the trend to continue.

But the rate of household saving has been declining in recent years, and as the changes in the age structure continue to unfold it is likely that this rate will turn negative at some point: ie Japan will start to dis-save.

Once this process sets in, it is hard to see - short of very dramatic rebound in fertility to the 2.1 Tfr replacement level, of which there is no sign whatsoever - how this process of dis-saving can ever reverse itself.

This would mean that at some point - and on aggregate - the external funds flow would reverse, as more money is repatriated than is sent out, and eventually this will be reflected in the income flows which derive from the capital flows.

One comment I came across recently said this:

"Japanese people collectively sit on the beach, produce nothing, and live well from income earned on their accumulated foreign earnings."

Well, I'm afraid it just isn't going to be like this at all. There are sustainability issues all over the place here, even if they are over a relatively long time horizon.

Or another comment:

"I think this (the positive income flow) is a very smart way for Japan as it keeps the Japanese standard of living at high levels despite the dwindling work force population."

As I say, I don't think this will work at all, and for the reasons I have just explained.

And again, there is the deflation issue, as internal demand fails consistently to raise at the same rate as productivity. Fortunately for Japanese deflation the yen is still running up against historic low levels - at least against the euro. Again the FT today:

"The weak yen is by no means the only reason for a dynamic export performance buoyed by strong global demand and the rapid industrialisation of China. But it has not hurt. Since 2002 – and contrary to normal behaviour during a lengthy expansion – the yen has fallen about 15 per cent in real terms."

Perhaps the principal factor driving the yen down at the moment are precisely the outward investment flows from Japanese retail investors (ie the retiring salarymen). Once the net flows invert, this will have an upward pressure on the yen, but then we will have to see where we are with the deflation situation, since evidently one of the factors tending to push the CPI up towards positive territory is the low value of the yen, which is pushing up the cost of things like fuel imports.

This is all definitely a very complex picture, which is why I suppose, for an economist, it is so interesting.

Monday, June 04, 2007

Global Growth 2007

This article in Bloomberg is worthy of note:

When it comes to world economic growth, the glass is suddenly looking a lot more than half full.

Not only is the global economy confounding concerns about a slump, it's even performing better than some of the most upbeat analysts were predicting just a few weeks ago. Worldwide growth looks set to outstrip forecasts for a sixth straight year in 2007.

``Perhaps it's time to stop looking for reasons why the global economy will crash and instead think about sources for optimism,'' says Dario Perkins, senior European economist at ABN Amro Holding NV in London and a former U.K. Treasury official.

None of this is really news, but it is worth stopping to think about some of the reasons which lie behind this surge:

Behind the surprising strength: something old and something new. A resurgence in old-economy manufacturing and a wave of new-style financing are combining to push down unemployment and boost corporate profits. So far, these trends aren't fanning widespread alarms about a surge in inflation.

So the global economy is growing at above what may have been previously thought to be its capacity rate, and without excessive inflation, in part thanks to the high levels of liquidity we are seeing.

Also fueling the expansion are new sources of finance that have sprung up outside the banking sector. Hedge-fund assets have tripled in the past decade to $1.57 trillion. Private- equity companies may be headed for a record year of acquisitions, bidding $451 billion for companies so far this year, versus $229 billion in the same period a year earlier, according to Bloomberg data.

Such financing is ``pumping up the global economy in ways we haven't seen before,'' says Allen Sinai, president of New York-based consultants Decision Economics.

Sinai expects worldwide growth above 5 percent this year, faster than the International Monetary Fund's 4.9 percent April projection. If Sinai's right, 2007 would be the sixth straight year that the IMF's spring forecast proved too conservative.

It is interesting to ask in this context whether the worst of the US 'landing' is now behind us, or in the process of passing through. If this were to be the case then this would also put a bottom under the relative slowdown we have been seeing in Germany and Japan, and while these two 'old laggards' are hardly likely to carry the global economy on their shoulders they are likely to get a fresh lease of life from continuing strong demand for their products both in the US and in the rapidly growing young developing economies (as well as from the rather older ones in Eastern Europe), if the current win-win process continues to turn round and round.

So all of this needs watching very carefully to see just what can be learnt. Certainly much of what is happening could not have been clearly foreseen only four or five years ago, and it would be interesting to pin down the structural drivers a bit more clearly.

Philippines and the Demographic Dividend

The Philippine economy grew at its fastest pace in 17 years in the first quarter of 2007, and this set me thinking:

The Philippine economy grew at its fastest pace in 17 years in the first quarter of this year, on the back of strong electronics exports, modest increases in government expenditure and consumption fuelled by election campaign spending.

Government economists said the country’s gross domestic product rose by 6.9 per cent from the same quarter last year, the highest rate since 1990 and surpassing many analysts’ who were predicting first-quarter growth of only 5.7 per cent, according to a Bloomberg survey. expectations. The economy grew by 5.5 per cent in the previous quarter.

The rapidly expanding services sector, which now accounts for half of economic output, pushed growth higher, as did outlay by the 17,000 candidates in last month’s polls.

Now basically, as we all know, global growth is very strong at the present time, and one significant reason for this is the strength of a number of newly developing economies. One factor which I feel is at work in all of this is a process known as the demographic dividend.

And I thought to myself Philippines is a bit young to be getting to much of this yet (in terms of median age, only around the 22/23 mark, normally things start to happen when median ages reach the late 20s). But then I found this piece in Bloomberg:

Philippine economic growth quickened in the first quarter, exceeding all expectations, as money sent home by nationals working abroad buoyed consumer spending and exports to China soared. The $117 billion Southeast Asian economy expanded 6.9 percent from a year ago, following a revised 5.5 percent gain in the previous three months, the National Statistical Coordination Board said in Manila today. Economists expected 5.7 percent.

Now, I have been speculating on Bonobo during the last week about the way in which housing-boom driven inward migration in developed countries (median ages in the 35 to 40 range, normally not above, and also see this post here) has non-linear growth impacts on their economies, the thought occurs to me that here in the Philippines we may be seeing the other side of the coin: excess children go out and send money back, indirectly raising the level of national savings and spending (and hence indirectly accelerating development).

So could we suggest that the average age at which Demographic Dividend take-off occurs can come down in countries which benefit from this process? If these sorts of chain mechanisms exist then that would explain a lot of the things we are seeing out there right now.


Here is another part of the recent positive story coming out of Philippines:

The Philippines is expecting a mining boom after some of the world’s biggest miners, including Anglo-American, BHP Billiton, Sumitomo and Xstrata, announced plans to dig for the country’s untapped mineral wealth. Industry leaders estimated that fresh mining investments in the next five years could reach $10bn, a rise from the government’s original target of $6.5bn.


The government expects that mining investments, which averaged only $260m in the past four years, to surge to $1.6bn next year and $2.8bn in 2008. Mineral output is expected to rise almost six-fold in three years from $1.3bn this year to almost $6bn by 2010, narrowing the gap with Indonesia, Asean’s biggest mining exporter.

So the Philippines is obviously benefiting from the surge in commodity prices produced by the recent strong global growth. Doubts however remain:

Arif Seregar, chairman of the Indonesian Mining Association, said Indonesia’s mining output continued to grow but warned that future expansion could be hampered by uncertainties over the government’s plan to introduce a new mining law later this year. Most of the world’s mining companies have yet to be convinced that policy stability is genuine in the Philippines. More than 300 mining executives surveyed by the Vancouver-based Fraser Institute cut the Philippines’ score for the attractiveness of its mining policies, putting its ranking just a few notches from the bottom, occupied by Zimbabwe.

What is interesting about all of this is how societies with young median ages seem to suffer from greater political instability (think Bolivia when compared with Chile). Obviously the slow processes of demographic change go hand in hand with improvements in the institutional environment (or they don't, in which case the country doesn't advance). It's all a question of "maturity" I guess.

It will be interesting to see how the future evolution of the Philippines works out in this regard.