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    Daily Digest – Jan 5

    by Davos

    Monday, January 5, 2009, 12:09 PM

  • Can the US economy afford a Keynesian stimulus?
  • Fighting off depression
  • Obama  makes new pitch, promises on job creation — including 600,000 new government employees
  • Obama eyes $300 billion tax cut
  • Tech, one of the last hopes for consumer spending, hits the exits
  • As vacant office space grows, so does lenders’ crisis
  • Interesting series on bailout
  • New home sales and unemployment
  • Cut oil sales to Israel’s backers-Iranian commander

Economy

Can the US economy afford a Keynesian stimulus?

Economic policy is based on a collection of half-truths. The nature of these half-truths changes occasionally. Economics as a scholarly discipline consists in the periodic rediscovery and refinement of old half-truths. Little progress has been made in the past century or so towards understanding how economic policy, rules, legislation and regulation influence economic fluctuations, financial stability, growth, poverty or inequality. We know that a few extreme approaches that have been tried yield lousy results – central planning, self-regulating financial markets – but we don’t know much that is constructive beyond that.

The main uses of economics as a scholarly discipline are therefore negative or destructive – pointing out that certain things don’t make sense and won’t deliver the promised results. This blog post falls into that category.

Much bad policy advice derives from a misunderstanding of the short-run and long-run impacts of events and policies. Too often for comfort I hear variations on the following statements: "The long run is just a sequence of short runs, so if we make sure things always make sense in the short run, the long run will take care of itself." This fallacy, which I shall, unfairly, label the Keynesian fallacy, compounds three errors. 

Fighting Off Depression

"If we don’t act swiftly and boldly," declared President-elect Barack Obama in his latest weekly address, "we could see a much deeper economic downturn that could lead to double-digit unemployment." If you ask me, he was understating the case.

The fact is that recent economic numbers have been terrifying, not just in the United States but around the world. Manufacturing, in particular, is plunging everywhere. Banks aren’t lending; businesses and consumers aren’t spending. Let’s not mince words: This looks an awful lot like the beginning of a second Great Depression.

So will we "act swiftly and boldly" enough to stop that from happening? We’ll soon find out.

We weren’t supposed to find ourselves in this situation. For many years most economists believed that preventing another Great Depression would be easy. In 2003, Robert Lucas of the University of Chicago, in his presidential address to the American Economic Association, declared that the "central problem of depression-prevention has been solved, for all practical purposes, and has in fact been solved for many decades."

Milton Friedman, in particular, persuaded many economists that the Federal Reserve could have stopped the Depression in its tracks simply by providing banks with more liquidity, which would have prevented a sharp fall in the money supply. Ben Bernanke, the Federal Reserve chairman, famously apologized to Friedman on his institution’s behalf: "You’re right. We did it. We’re very sorry. But thanks to you, we won’t do it again."

Prez-Elect Makes New Pitch, Promises on Job Creation — Including 600,000 New Government Employees 

In his radio address today, President-elect Obama uses some new language when discussing what he wants the stimulus package to achieve in terms of jobs. First off, he has a name for the package — the "American Recovery and Reinvestment Plan."

The president-elect says he wants to "create three million new jobs" — this is a change from a few weeks ago, when he said he wanted the plan to create OR SAVE two million jobs.

He says the "No. 1 goal of my plan … is to create three million new jobs, more than 80 percent of them in the private sector."

If you do the math: 20 percent of three million means 600,000 new government employees. 

Obama Eyes $300 Billion Tax Cut

WASHINGTON — President-elect Barack Obama and congressional Democrats are crafting a plan to offer about $300 billion of tax cuts to individuals and businesses, a move aimed at attracting Republican support for an economic-stimulus package and prodding companies to create jobs.

The size of the proposed tax cuts — which would account for about 40% of a stimulus package that could reach $775 billion over two years — is greater than many on both sides of the aisle in Congress had anticipated. It may make it easier to win over Republicans who have stressed that any initiative should rely more heavily on tax cuts rather than spending.

The Obama tax-cut proposals, if enacted, could pack more punch in two years than either of President George W. Bush’s tax cuts did in their first two years. Mr. Bush’s 10-year, $1.35 trillion tax cut of 2001, considered the largest in history, contained $174 billion of cuts during its first two full years, according to Congress’s Joint Committee on Taxation. The second-largest tax cut — the 10-year, $350 billion package engineered by Mr. Bush in 2003 — contained $231 billion in 2004 and 2005.

Tech, One Of The Last Hopes For Consumer Spending, Hits The Exits

Spending on cars, clothing, jewelry, furnishings have moved down 20% or more over the last few months. There has been a lot of research that consumers were still willing to buy video games, PCs, and other electronics.

Now, those categories have joined almost every other in a period of rapid sales contraction.

According to The Wall Street Journal, new data from Forrester Research shows that people are much less likely to buy GPS and smartphones than they were a year ago. Several other categories of products will also be hit hard.

The news has serious consequences for a large number of public companies. It is no coincidence that The Times of London reported that Sony (SNE) is preparing for unprecedented cost cuts.

As Vacant Office Space Grows, So Does Lenders’ Crisis 

Vacancy rates in office buildings exceed 10 percent in virtually every major city in the country and are rising rapidly, a sign of economic distress that could lead to yet another wave of problems for troubled lenders.

With job cuts rampant and businesses retrenching, more empty space is expected from New York to Chicago to Los Angeles in the coming year. Rental income would then decline and property values would slide further. The Urban Land Institute predicts 2009 will be the worst year for the commercial real estate market "since the wrenching 1991-1992 industry depression."

Banks and other financial companies have not had the problems with commercial properties in this recession that they have had with residential properties. But many building owners, while struggling with more vacancies and less rental income, will need to refinance commercial mortgages this year.

Interesting Series on Bailout

New Home Sales and Unemployment

This graph shows New Home Sales vs. the Unemployment Rate.

Here are a couple of things to note:

  • Usually New Home sales are declining before a recession.
  • Usually New Home sales bottom during the recession and start to increase 3 to 6 months before the recession ends. Therefore New Home sales are usually a good leading indicator of an economic recovery.
  • The unemployment rate usually starts increasing just before the recession begins.
  • The unemployment rate peaks after the recession ends. During the last two recessions, the unemployment rate didn’t peak until over a year after the recession ended.
  • The unemployment rate typically lags New Home sales.

As Dr. Yellen noted today (and Krugman and others before her) the current recession is not of the "garden-variety": I agree with [Martin Feldstein] that the current downturn is likely to be far longer and deeper than the "garden-variety" recession in which GDP bounces back quickly. As Marty points out, a defining characteristic of this downturn is its cause. Typically, recessions occur when monetary policy is tightened to subdue the inflationary pressures that emerge during a boom. This time, the cause was the eruption of a severe financial crisis. Cross-country evidence suggests that, following such an event, GDP remains subdued for an extended period.

Since the cause of the current recession is different than other post WWII recessions, the dynamics of the eventual recovery might be different too.

 

Energy

Cut oil sales to Israel’s backers-Iranian commander

TEHRAN, Jan 4 (Reuters) – An Iranian military commander called on Islamic countries to cut oil exports to Israel’s supporters in response to the Jewish state’s offensive in Gaza, the official IRNA news agency reported on Sunday.

IRNA said commander Bagherzadeh described oil as "one of the powerful elements of pressure" on the Jewish state’s Western backers in the "unequal war" faced by Palestinians in the coastal strip.

"Pointing at Westerners’ dependence on the Islamic countries’ oil and energy resources, he (Bagherzadeh) called for cutting the export of crude oil to the Zionist regime’s supporters the world over," IRNA said, referring to Israel.

IRNA gave only the commander’s last name but it may have been referring to Mirfeysal Bagherzadeh, a brigadier-general of Iran’s elite Revolutionary Guards. There was no immediate comment from other Iranian officials.

Iran, which often rails against the United States and Israel, is the world’s fourth-largest oil producer and a leading member of the Organization of the Petroleum Exporting Countries (OPEC). Top exporter Saudi Arabia is a U.S. ally.

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