US Recession Indicators - May 2011

Net Monetary Base vs Inflation (spread)

The growth of the Net Monetary base (M0 minus excess reserves) over inflation has been above the historical average since September 2010 and has increased even further with an April reading of 536. This is an increase from last month's reading of 529. Despite the high reading of 2011 Q1 over the average, GDP growth for this period was only moderate (confounding my own predictions of substantial growth).

Inflation readings in April continue to grow. The index reading of 224.433 implies annual inflation of 3.1% but the annualised monthly figure was 5.1%. Prices since December (220.186) have increased by 1.9%, which implies an annualised inflation rate of 4.6%, still uncomfortably high. As 2011 continues the momentum of these high monthly figures will translate into higher annual inflation.

Since the introduction of QE2 in November 2010, the net monetary base has increased faster than inflation. This unconventional policy by the Fed continues to provide the conditions for good economic growth.

Note: A negative result implies that inflation is growing faster than the money supply, an event which indicates that a recession will occur within 1 to 36 months (with an average of 12 months)
Note: A Decline in annual Real GDP per Capita is my definition of a "recession"

Data Series:
St Louis Fed

AMBNS
EXCRESNS
CPIAUCSL
GDPC1
POP

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Federal Funds Rate vs 10 Year Bond Rate (spread)

The 10 Year Bond Rate has increased over the past few months while the Federal Funds rate remains at near zero. The April spread comes in at 336 basis points, well above the historical average and safely in positive territory.

Note: A negative result implies a highly restrictive monetary environment, an event which indicates that a recession will occur within 4 to 39 months (with an average of 22 months).

Note: If both the first and second graphs are negative at the same time it indicates that a recession will occur within 1 to 21 months (with an average of 11 months).

Data Series:
St Louis Fed

FEDFUNDS
GS10
GDPC1
POP

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Real Interest Rates

Inflation in the past four months has picked up considerably, which means that Real Interest Rates in April dropped further to -3.0% - well below the historical average of 1.6%. This is now the 18th negative month in a row.

Since 1955 there have been five long periods of negative Real Interest Rates:

• 1957-12 to 1958-10: 11 months (average -1.4%)
  
• 1974-09 to 1977-09: 37 months (average -1.9%)
  
• 2002-10 to 2005-04: 31 months (average -1.1%)
• 2008-01 to 2008-11: 11 months (average -2.1%)
  
• 2009-11 to 2011-04: 18 months (average -1.7%)
  

Note: Real Interest Rates are another way of measuring monetary conditions. While inflation implies that cash by itself is losing its value, a negative real interest rate implies that cash accounts in banks are losing value as well (even while earning interest). The IMF strongly recommends that economies keep real interest rates positive to preserve the value of money and to prevent investment bubbles from occurring.

Data Series:
St Louis Fed

FEDFUNDS
CPIAUCSL
GDPC1
POP

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Archive of Historical graphs.

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Market Cap heading for adjusted US dollar fall?

I've adjusted the Russell 3000, an indice that measures market capitalisation, by the value of the US Dollar as measured by the USDX index, and I found this interesting thing:

Financial analysts have often used little thingys like lines of resistance or something like that. I don't fully understand it but it seems to show that a potential high has been reached and that maybe, just maybe, there'll be another drop. In the context of this particular graph, it would be either a drop in the value of the US Dollar or a drop in the value of the Russell 3000, or some combination of both.

US Recession Indicators - March 2011

Net Monetary Base vs Inflation (spread)

The growth of the Net Monetary base (M0 minus excess reserves) over inflation is safely in positive territory with a reading of 424. This is an increase from last month's reading of 409 but is still way above the historical average of 255. The last six months have seen the spread nearly double in size, which indicates that 2011-Q1 GDP growth is likely to be substantial.

Inflation, however, is increasingly evident in numbers just released. Although February saw an annual inflation increase of 2.2%, the annualised monthly figure was 6.6%. I predicted recently that February inflation was going to be be "big" and it was. This was because early M0 figures showed an annualised monthly growth of over 97%. Once excess reserves were taken into account, the net monetary base increased by an annualised 15.4%.

Note: A negative result implies that inflation is growing faster than the money supply, an event which indicates that a recession will occur within 1 to 36 months (with an average of 12 months)

Data Series:
St Louis Fed

AMBNS
EXCRESNS
CPIAUCSL
GDPC1
POP

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Federal Funds Rate vs 10 Year Bond Rate (spread)

The 10 Year Bond Rate has increased over the past few months while the Federal Funds rate remains at near zero. The December spread comes in at 342 basis points, well above the historical average and safely in positive territory.

Note: A negative result implies a highly restrictive monetary environment, an event which indicates that a recession will occur within 4 to 39 months (with an average of 22 months).

Note: If both the first and second graphs are negative at the same time it indicates that a recession will occur within 1 to 21 months (with an average of 11 months).

Data Series:
St Louis Fed

FEDFUNDS
GS10
GDPC1
POP

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Real Interest Rates

Inflation in the past three months has picked up considerably, which means that Real Interest Rates have dropped to -2.0%

Note: Real Interest Rates are another way of measuring monetary conditions. While inflation implies that cash by itself is losing its value, a negative real interest rate implies that cash accounts in banks are losing value as well (even while earning interest). The IMF strongly recommends that economies keep real interest rates positive to preserve the value of money and to prevent investment bubbles from occurring.

Data Series:
St Louis Fed

FEDFUNDS
CPIAUCSL
GDPC1
POP

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Archive of Historical graphs.

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Hello all

US Inflation for February will be big

Here's a screencap of my spreadsheet.

Monthly M0 grew in February by 8.1%, which means an annualised increase of 97.24%.

There are only three other monthly results since 1954 (where my M0 figures begin) when M0 increased faster than this, and that was October 2008, November 2008 and December 2008 during the market panic of that period. Those three months were also beset with some very severe deflation. It was this huge increase in liquidity by the Fed which helped prevent a deflationary collapse. Put simply, the inflationary pressure caused by the increase in M0 was able to balance out the deflationary effect of the crisis.

Since we're not in a similar situation (ie not in an imminent credit crisis), February's sizable M0 increase (the fourth largest in history) would have a large inflationary effect.

On the surface, annual inflation is still benign:

• November 1.1%
• December 1.4%
• January 1.7%

Yet these annual figures hide the monthly results which, annualised, are:

• November 1.5%
• December 5.2%
• January 4.8%

All these figures you can see on the screencap link to my spreadsheet I've given. And if you have checked that out you will also see the notation "QE2" to the far right of the November row. QE2 is, of course, the announcement by Ben Bernanke that the Fed will create $600 billion of money by fiat and use it to buy back government bonds.

Oil prices have popped up, partly due to Libya but mainly due to supply issues (ie Peak Oil), which means that the inflationary effect of QE2 will run straight into the inflationary effect of high oil prices. Bad news for the recovery.

US Recession Indicators - February 2011

Net Monetary Base vs Inflation (spread)

The growth of the Net Monetary base (M0 minus excess reserves) over inflation is safely in positive territory with a reading of 409. This is a decrease from last month's reading of 478 but is still way above the historical average of 255. The increase in the past six months has been substantial, which is likely to mean that US GDP growth will continue strongly in Q1 2011. However the January results saw an annualised increase in inflation of 4.8% which, compared with an annualised decrease in the Net Monetary Base of -1.6%, sees the spread in negative territory (-642). Nevertheless an occasional monthly decline is common and is not indicative of an oncoming recession.

Note: A negative result implies that inflation is growing faster than the money supply, an event which indicates that a recession will occur within 1 to 36 months (with an average of 12 months)

Data Series:
St Louis Fed

AMBNS
EXCRESNS
CPIAUCSL
GDPC1
POP

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Federal Funds Rate vs 10 Year Bond Rate (spread)

The 10 Year Bond Rate has increased over the past few months while the Federal Funds rate remains at near zero. The December spread comes in at 322 basis points, well above the historical average and safely in positive territory.

Note: A negative result implies a highly restrictive monetary environment, an event which indicates that a recession will occur within 4 to 39 months (with an average of 22 months).

Note: If both the first and second graphs are negative at the same time it indicates that a recession will occur within 1 to 21 months (with an average of 11 months).

Data Series:
St Louis Fed

FEDFUNDS
GS10
GDPC1
POP

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Real Interest Rates

Inflation in the past two months has picked up considerably. Index figures and summaries are as follows:

November 2009: 216.956
December 2009: 217.158
January 2010: 217.458
October 2010: 218.970
November 2010: 219.240, 1.1% yearly, 0.1% monthly, 1.5% monthly annualised
December 2010: 220.186, 1.4% yearly, 0.4% monthly, 5.2% monthly annualised
January 2011: 221.062, 1.7% yearly, 0.4% monthly, 4.8% monthly annualised

The Federal Funds Rate remains at rock bottom at 0.17%, which means that real interest rates are still negative at -1.5%. Last month was -1.2%.

Inflation has picked up due to a combination of higher oil prices, higher food prices, and the effects of QE2. It remains to be seen whether these inflationary conditions will continue, and/or have a negative economic impact.

Note: Real Interest Rates are another way of measuring monetary conditions. While inflation implies that cash by itself is losing its value, a negative real interest rate implies that cash accounts in banks are losing value as well (even while earning interest). The IMF strongly recommends that economies keep real interest rates positive to preserve the value of money and to prevent investment bubbles from occurring.

Data Series:
St Louis Fed

FEDFUNDS
CPIAUCSL
GDPC1
POP

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Archive of Historical graphs.

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The magical GDP Deflator

I've just had a very important change in thinking. I'm no longer going to focus on the Consumer Price Index (CPI) as the main measurement of inflation, but the GDP Deflator.

When Gross Domestic Product (GDP) is reported, two figures are released. The first is called "Nominal GDP" and is essentially the latest measurement in current prices. Since prices are affected by inflation, a second figure is released called "Real GDP", which measures GDP after adjusting for inflation. A mix up in my understanding of this issue was quite embarrassing a few years ago, but it has remained in the back of my mind ever since.

The thing is that CPI measures consumer prices. It doesn't measure producer prices (which is a separate figure) or any other price movements. In my macro study of how inflation affects the money supply I searched for a more accurate representation of how inflation should be measured. The GDP deflator is the broadest measurement of inflation in an economy. If you want to measure the complete price change in the economy, look at the GDP deflator.

For instance. If you look at 2010 Q4, the CPI index moves from 217.224 in December 2009 to 220.252 in December, which implies an annual inflation figure of 1.39%. The GDP deflator index moves in the same period from 109.665 to 111.118, which implies an annual inflation figure of 1.32%. The GDP deflator and the CPI are rarely exactly the same, almost always move together, and only rarely is there a large disconnect between the two results. I suppose you could say that the CPI is an approximate measure of inflation, while the GDP deflator is the most complete figure we have.

Firstly, this has had broad implications with my recession predictions. The spreadsheets I have on this issue more than confirm my predictions when I replace CPI data with GDP deflator data.

Secondly, it has changed my opinion of what is going on in Japan. As someone who believes in Absolute Price Stability (neither inflation nor deflation over the course of the business cycle, with an inflation index averaging out at zero changes over the long term) I have often lauded Japan as being an example of what it could be like. Not any more. See here:

This index clearly shows that the GDP deflator in Japan has been negative since 1997. This is not price stability; it is deflation. If Japan had absolute price stability, the average result of the GDP deflator over the long term would not show much deviation, if at all. In 1997 the index was 103.115. If it was still around the 103 mark today, with movements between 101 and 105 in the intervening years, then that would constitute absolute price stability. As a result of this discovery, I have far less respect for the BOJ. Quantitative easing and an abandonment of mercantilist trade policy is what Japan should've done to prevent this deflation.

Here's another problematic graph.

US Recession Indicators - January 2011

Net Monetary Base vs Inflation (spread)

The growth of the Net Monetary base (M0 minus excess reserves) over inflation is safely in positive territory with a reading of 480. The increase in the past six months has been substantial, which is likely to mean that US GDP growth will continue strongly in Q1 2011.

Note: A negative result implies that inflation is growing faster than the money supply, an event which indicates that a recession will occur within 1 to 36 months (with an average of 12 months)

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Federal Funds Rate vs 10 Year Bond Rate (spread)

The 10 Year Bond Rate has increased over the past few months while the Federal Funds rate remains at near zero. The December spread comes in at 311 basis points, well above the historical average and safely in positive territory.

Note: A negative result implies a highly restrictive monetary environment, an event which indicates that a recession will occur within 4 to 39 months (with an average of 22 months).

Note: If both the first and second graphs are negative at the same time it indicates that a recession will occur within 1 to 21 months (with an average of 11 months).

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Real Interest Rates

Low inflation and even lower interest rates mean that the current rate is still in negative territory at -1.21%. It remains to be seen whether the current situation encourages another investment bubble or simply encourages investors to reduce liquidity.

Note: Real Interest Rates are another way of measuring monetary conditions. While inflation implies that cash by itself is losing its value, a negative real interest rate implies that cash accounts in banks are losing value as well (even while earning interest). The IMF strongly recommends that economies keep real interest rates positive to preserve the value of money and to prevent investment bubbles from occurring.

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Archive of Historical graphs.

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