2015-14 Global economy is weak

The global economy is weak. The weakness takes place despite the fact that

- the FED has not changed interest rate

- the Bank of Japan and the European Central Bank continue the policy of quantitative easing, i.e. buy various long-term assets to stimulate the economy

- the Chinese central bank recently reduced interest rates and reserve requirements.

Here is an amazing statistic:

"Appetite for safe assets is so strong in Europe that about 30 per cent of the $6.3 trillion of sovereign bonds in the euro area have negative yields, index data compiled by Bloomberg show. That means buyers who hold to maturity are willing to accept small losses in return for the promise that most of their money will be returned."

People are talking about the new normal, with low interest rares and low inflation rates.

Prices in Europe did not change in October after falling 0.1% in September. German exports are falling, and it looks like China will have the slowest growth in 25 years.

All this news suggests that the FED should wait with raising interest rates because demand is too weak to increase the inflation rate.

2015-13 US nearing full employment

According to a survey of economists, the US is approaching full employment.

The article provides a nice definition of full employment: "“Full employment” is a term economists use to signify an economy in balance: where there is no longer cyclical economic weakness, but also no pressures pushing the inflation rate ever higher. The term doesn't signify an economy in which everyone has a job, let alone a good one."

The unemployment rate in the US is 5.1%. During the Great recession it was 10%, so the decline since 2009 is 5%. In comparision, the unemployment rate in Canada during this period fell by less than 2%
Not everything is great, however. Participation rate, at 62.4% is the lowest since 1977, when a smaller proportion of women were in the labour force.
The participation rate has not been increasing. This is a surprise. Many economists thought the low participation rate following the Great Recession was due to discouraged workers, who would return to the labour force once the unemployment rate declines. But this has not happened.
One possible explanation is that more people retire before age 65 and that young people stay in school longer.
No wage increases. Another surprise is that wages remain flat despite the low unemployment rate. Some economists argue that wages will start to increase eventually; other point out to the increase in benefits.

2015-12 Growth projections for the advanced and emerging economies

We talked a few times about international linkages between countries. An article in the Economist focuses on international linkages between regions. It is based on the projections by the International Monetary Fund about growth in the next 5 years. There are three scenarios considered

• baseline
• there is a slowdown in emerging economies (a 4% drop in investment)
• there is a slowdown in emerging economies (a 4% drop in investment) and capital outflow from emerging economies.

As you can see from the graphs below, emerging economies slowdown would reduce growth quite a bit: by 2% in BRICS countries, 1% in other emerging economies and .3% in advanced economies. A panic which leads to a capital outflow from emerging economies would make things worse in all regions.

Note also that the predictions suggest convergence: poor countries are expected, in every scenario, to grow faster than rich countries.

2015-11 Monetary policy decision of the Bank of Canada

Here is a page on upcoming events from the Bank of Canada.
Today at 10:00 the Bank of Canada will announce its interest rate decision, and publish the Monetary Policy Report. As these announcements can influence markets, there is an embargo on releasing the information until 10am.
Note the frequency: the Bank of Canada announces the interest rate decision 8 times a year (about every 6 weeks). The dates of these decisions are pre-announced, as the Bank does not want to surprise the markets. In extraordinary situations, there may be an unscheduled decision.
The Monetary Policy Report is published 4 times a year. It contains the assessment of the economy by the Bank staff, and provides indication of the likely direction of monetary policy.

2015-10 What goes in the monetary policy decision

The US central bank (FED) has been considering an increase in interest rates. The policy rate has been near zero since 2008, i.e. the Great Recession. This is unprecedented, both in terms of level, and length. An increase in the policy rate would signal a return to normality.
These two articles summarize what the FED takes into account when deciding on whether to raise interest rates.

The first article points to
- retail sales
- produce price inflation
- lower investment in the energy sector due to falling energy prices

The second article points to
- growth in manufacturing
- the state of the labour market, as seen from the number of new unemployment claims.

Bottom line: economic activity is slowing down, while the labour market is tight, with record low new unemployment claims. The mixed signals make the FED task difficult.

2015-09 Exchange rates and arbitrage

Today we will be talking about purchasing power parity, which is a theory of exchange rate determination in the long run. If prices of goods in one country are lower than in another (i.e. the real exchange rate is less than one) arbitrage will often take place: goods will be bought in the cheaper country and exported to the more expensive country. The process will go on until price differences are eliminated, i.e.until the real exchange rate is one.
Here is an example. As the Canadian dollar depreciated, grey market exports of cars from Canada to the U.S. has been increasing.
Here is why. A certain car in the U.S. cost $US43 395, and in Canada $Can45 944. As the nominal exchange rate is $0.75, the real exchange rate is - well - something for you to figure out.

Why the purchasing power parity not always works? In class we will discuss several reasons. The article gives another: a concerted action by the manufacturer to prevent arbitrage. Nissan is threatening Canadian dealerships that sell to U.S. buyers with termination.

A car is an unusual product in that it has to be registered and is identifiable. So Nissan's tactic cannot be used for most goods and services. But, by differentiating products across countries (for example by providing only local warranties) manufacturers try to reduce arbitrage.

2015-08 Growth returns

The Canadian economy seems to be growing again. In the last two months the economy grew by 0.7%, which if continued would be about 4% per year. That is fast growth by past standards.
A few months ago, commentators worried about a recession. Why? They were using a simple definition of a recession: two consecutive quarters of output decline. But as you have seen, the actual definition of a recession is more complex. According to the C.D. Howe institute, a recession is a "pronounced, pervasive and persistent decline in aggregate economic activity"
Over the past two quarters, the decline in output was not very pronounced: it was only 0.1%-0.2%. To figure out whether the decline is persistent, one needs to wait a little. It turns out it was not persistent as the economy grew in June and July. And it was not pervasive because most of the decline was in the oil sector and in car production.
The author of the article argues that the decline in output before June was due to temporary factors: unscheduled maintenance at oil facilities in Alberta and a retooling of a Chrysler minivan plant. With the temporary factors gone, the GDP is growing again.