Transcript Economics, by R. Glenn Hubbard and Anthony Patrick O`Brien

Consumer Credit Outstanding
(Measures consumers’ willingness and ability to spend)
Web: www.federalreserve.gov/release/g19
Large revisions
Consumer credit outstanding, CCO, is debt not secured/collateralized by real estate.
Seasonally adjusted, not annualized data (actual outstanding loan balance at month end).
Large revisions require evaluating data over 3-6 month time frame to determine trend.
Annualized percent change numbers reveal whether pace of indebtedness is accelerating, decelerating or falling.
2 Components:
1. Revolving credit (40% of total) – credit card, retail cards, gasoline cards
2. Non-revolving credit (60% of total) - auto, boat, mobile homes, vacation, home improvement, and education loans
Net change in indebtedness: D CCO = Loan originations – Loan repayment
D CCO = F [D spending, D income, D prices, D consumer confidence]
Loan originations and consumer spending tend to be highly correlated but don’t have origination data.
Change versus Level Analysis:
 debt =>  spending =>  DY/Y
High debt levels (relative to income) =>  spending &  repayments =>  DY/Y
High debt levels with  interest rates or  jobs =>  non-revolving loan applications =>  spending
High debt levels with  interest rates or  jobs =>  revolving credit (to maintain living standards)
--------------------------------------------------------------------------------------------------------Market Analysis:
Bonds: Unexpected  debt =>  DY/Y =>  (DP/P)Et+1 =>  DBonds =>  iBonds
Stocks: Sustained  debt =>  spending => sales=> revenues=> profits=> PStocks
Dollar: Unexpected  debt =>  DY/Y =>  (DP/P)Et+1 =>  DBonds =>  iBonds =>  P$
Consumer Credit Outstanding
16
40
14
35
12
30
10
25
8
20
6
15
4
10
2
5
0
0
-2 00
-4
01
02
03
04
05
06
Recession
07
08
09
10
11
12
13
-5
-10
-6
Consumer Credit Monthly Change (RHS)
-15
-8
Year-over-Year Growth (LHS)
-20
$ bil (SA)
Percent
(monthly change & annual growth rate)
Capacity Utilization
(Total and Manufacturing)
90
90
88
88
86
86
percent
84
Full capacity = 82-84%
84
82
82
80
80
78
78
76
76
74
74
72
72
70
70
68
68
Recession
66
64
Total
Manufacturing
62
66
64
62
82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14
Unemployment Rate
18
18
17
16
(Percent)
15
17
Unemployed
Involuntarily working part-time
Marginally attached (want jobs but haven’t searched in a month)
16
15
14
14
13
13
12
12
11
11
10
10
9
9
8
Cyclical
Unemployment
7
8
7
6
6
5
5
4
3
2
1
Recession
Unemployment
Frictional
Unemployment
Underemployment (U-6)
Full Employment (NAIRU)
Structural
Unemployment
4
3
2
0
1
0
80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13
Source: Department of Labor.
23
2 simplifying assumptions
1. (DP/P)Et+1 = 0
2. no D LRAS
Static AD/AS Model
PL
LRAS
2007 Economic News:
1. Housing demand drops =>  IRes. => AD 
2. PHomes fall, PStocks flat => Wealth  => AD 
3. Poil near $100 =>  input price => AS 
4.  Cons./Bus. Confidence =>  C&I => AD
5. Dollar falls =>X,M=>AD 
6. Foreign economies’ grow 5% => X => AD 
AS07
AS06 = f (PL; Shifters)
PL207
7
PL07
PL06
Discretionary Macro Policy Response
7. Fed. Res.  interest rates => AD 
3
AD072
4
2
5
1
6
AD06 = f (PL; Shifters)
= C+I+G+X-M
AD07
U.R. > 5%
Y07
YPot
U.R. = 5%
Y
Labor costs are 70% of total
Automatic Self-Adjusting
Mechanism
w
P.L.
PL
LRAS
P = P Y – w L – i D – PI Inputs
S1L
Wage
AS07
AS06
AS08
PL07
PL06
PL08
W06
W07
W08
D2L
90%
AD06
AD07
U.R. > 5%
S2L
Y07
YPot
1.
2.
3.
D1L
95% Labor
Force
%
Workers accept lower w
Lenders accept lower i
Producers accept lower PIn
Y
Self-equilibrating Model
DP => equilibrium (AD = SRAS)
Movement along curves
But Y may not be equal to YPOT
Self-correcting Model
Dw, D i, D PI => Y = YPot
Shifting SRAS curve
Factory Orders
(Comprehensive Measure of Manufacturing Orders and Sales Activity)
New Orders
Web: www.census.gov/indicator/www/m3/prel/index.htm
Major revisions covering prior 2 months as late respondent data comes in.
Census Bureau surveys 3,500 manufacturers covering 89 industry groups
Unfilled Orders
Shipments = Production – D Inventory
Factory new orders includes previously released durable goods orders data (hard products like aircraft, cars, stoves) which is around 53% of all factory orders and adds nondurable
goods orders data (soft items life food, clothing and fuel which have less than 3 years useful existence). Value of manufacturers’ new orders is an excellent measure of the
underlying pace of demand for manufactured goods.
Durable goods orders are an excellent leading indicator of future economic (production) activity for the next 3-6 months.
Non-durable goods orders (products essential for living) data possess little predictive value because the category tends to rise at a fairly stable rate every month regardless of the
state of the economy.
New Orders – Legally binding agreements to purchase a product for immediate or future delivery (not options on new orders). Order cancellations are subtracted out. Total orders can
be distorted by surge in spending on civilian aircraft and defense. It is prudent to look at orders excluding transportation and defense. Use a 3-month moving average to
smooth out wild monthly data swings.
Value of Manufacturers’ Unfilled Orders (order backlog) – factory orders that have yet to be filled and shipped. Good leading indicator of future manufacturing activity and good
barometer of overall health of economy. Good indicator of manufacturing resources strain. D Unfilled Orders = New Orders – Shipments. The unfilled orders-to-shipments
ratio measures the logjam between new orders and shipments.
Shipments – ordered products that are being delivered. Coincident economic indicator – measure of current economic activity. Values are computed net of discounts but before freight
charges and excise taxes. Shipments = production – D inventory.
Value of Manufacturers’ Inventory – are calculated on a current cost basis. Data foretells future economic activity. Factory inventories are typically 1/3 of all business inventories
(manufacturer, wholesale, retail). One major economic concept is that D inventories is a function of the relative pace of supply and demand changes.
Data are in nominal (current) dollars. To adjust for inflation, use the intermediate materials Producer Price Index. If economy is expanding at an increasing rate, inventories
rise as firms keep stockrooms filled to meet expected sales. When the economy moves past the “inflection point”, where the economy is expanding at a decreasing rate, the
decline in sales growth can be greater than the decline in production growth (imbalance where QS > QD) leading to a rise in factory inventories. Inventory-to-sales ratio
gives a good relative perspective of production dymanics.
Inventories: Important with John Maynard Keynes Aggregate Expenditure Model
If production > new orders, then either  unfilled orders or unplanned inventories =>  future production/output => (DY/Y)t+1
Production Dynamics – (supply and demand imbalances of products and materials)
If Y > YPOT (no slack capacity) and new orders surge,
then production capacity will be constrained => production can’t keep up with pace of new orders (D new orders > D production) =>  unfilled orders (order backlog) => delay of
customers deliveries =>  bottlenecks and inflation =>  investment,  labor, and  overtime =>  production capacity =>  economic activity
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Market Analysis:
Bonds:  new orders and unfilled orders (excluding defense & aircraft) =>  manufacturing sector =>  DY/Y =>  DP/P =>  DBonds =>  iBonds
Stocks:  new orders and unfilled orders =>  profits =>  PStocks
Dollar:  new orders =>  manufacturing sector =>  DY/Y =>  DP/P =>  DBonds =>  iBonds =>  dollar
Factory Orders & Shipments
(Dollar Value of Orders and Shipments)
$500,000
Recession
$480,000
Shipm ents
$480,000
$460,000
New Orders
$460,000
$440,000
$440,000
$420,000
$420,000
$400,000
$400,000
$380,000
$380,000
$360,000
$360,000
$340,000
$340,000
$320,000
$320,000
$300,000
$300,000
$280,000
$280,000
$260,000
$260,000
$240,000
$240,000
$220,000
$220,000
$200,000
$200,000
92 93 94
95 96
97 98
99
00 01
02 03
04 05
06 07
08 09
10
11 12
13 14
$ Mil. (SA)
$ Mi.l (SA)
$500,000
Factory Orders
Inventories & Unfilled Orders
$1,050,000
$625,000
Recession
$1,000,000
$950,000
Inventories (RHS)
$600,000
Unfilled Orders (LHS)
$575,000
$900,000
$550,000
$525,000
$800,000
$750,000
$500,000
$700,000
$475,000
$650,000
$450,000
$600,000
$425,000
$550,000
$400,000
$500,000
$375,000
$450,000
$400,000
$350,000
92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14
$ Mil. (SA)
$ Mi.l (SA)
$850,000