Highlights from an Economist lecture

I attended an alumni event on Tuesday evening at which an economist from the Chicago Fed was the speaker. I assume that as a Federal Reserve economist, he considers it his duty to promote a sense of optimism and confidence, so I took his forecasts less seriously than some of the data he used. This post is simply some of the data and commentary that I found most interesting.

• A $.01 drop in the price of gasoline at the pump adds about $1 billion in aggregate to US consumer pockets. I had heard that before. His follow on point was that normally a price change would simply be viewed as a transference between parties in the US economy, but because we import so much of our oil, the price reduction is incrementally adding dollars to the US.
• I wish he would have provided more detail, but he said their models indicated that companies have been laying people off more aggressively than the economic conditions would dictate. Or, the unemployment spike has been bigger and sooner than it maybe should have been. He seemed to think that laid the groundwork for a material improvement in the monthly job loss numbers as we move forward. (I think I agree with this)
• Comparisons to the Great Depression are not realistic. This is the worst downturn most of us have experienced so we naturally compare it to the worst that we are aware of, but he argued the differences outweigh the similarities. One key similarity that may also explain the constant comparison is that both downturns were associated with a financial crisis, unlike most intervening downturns.
• The critical difference between the Great Depression and today is that in the 1930, the government held the philosophical view that it should balance its budget like a normal household would. As such, the response to the severe downturn was to raise taxes and cut government spending which simply compounded the downturn. (Even liberal Obama seems to understand that raising taxes right now is a bad idea and no one will accuse the current government of reducing spending)
• Speaking of other downturns, the inventory cycle has often been associated with milder downturns. He presented some data that although light auto sales have plunged, production has plunged with it an that auto inventories are not really in very bad shape. (As I think about this, the better synchronization of production and consumption may also explain why layoffs have been earlier and more aggressive than in prior cycles)
• In 1980, about 75% of cars sold in the US were made by the Big Three; the rest were imported. Today, the Big Three only account for about 45% of domestic production, but total domestic production is still around 75% because many "foreign nameplate" cars are built in the US.
• Foreclosures - The national average foreclosure rate in 2008 was 1.8%. New Jersey has the tenth highest foreclosure rate at 1.8%. So 40 of 50 states have average or below average foreclosure rates. The top ten highest states represent 40% of the population and foreclosures have been highly concentrated in four states (NV, FL, AZ, CA).
• New Housing supply - Roughly 1.4-1.6 million new households are formed every year which we can think of as the natural new demand for housing units. In response the the glut of inventory, housing starts have fallen to a rate of about 500k per year which is a record low since WWII. He estimated that about 300k homes are simply replacement stock for homes that either burn down or are torn down, so we are only adding about 200k net new housing units right now. (My view: this is clearly a critical component for finding a new base for housing prices)
• Housing affordability is at its highest level since 1990. The combination of low rates and lower prices has pushed this index up dramatically. (I think this index is valuable, but has to be used carefully. It doesn't capture the "artificial affordability" that was offered via exotic mortgages and loose underwriting during the boom, so beware of the caveats)
• He found it very interesting that both the deflation camp and the inflation camp seem equally worried and vocal about the dangers ahead. Usually one side or the other dominates the collective worry.

Finally, I'll include the Feds forecasts but take it all with a grain of salt and consider their motivations.

GDP Q1 2009 -4.8%, Q2 2009 -1.5%, Q3 2009 .9%, Q4 2009 2%, Q1 2010 2.3%, Q2 2010 2.9%, Q3 2010 3.1%, Q4 2010 3.1%.

Peak unemployment of 8.8%.