The Surprises of 2011 1. The continuation of the Bush tax cuts coupled with the extension of unemployment benefits has put all working Americans in a better mood. Real Gross Domestic Product rises close to 5% in 2011 driven by improved trade and capital spending in addition to stronger retail sales. Unemployment drops below 9%.
2. The prospect of increasing Federal budget deficits and rising government debt finally begins to weigh on the bond market. The yield on the 10-year U.S. Treasury approaches 5% as foreign investors become more demanding. Spreads with corporate fixed income securities narrow.
3. Encouraged by renewed economic momentum the Standard & Poor’s 500 rises close to its old high of 1500. A broad range of sectors participate, but telecommunications and utilities lag. With earnings improving, valuations seem low and individual investors return to equities for the first time since the financial crisis. Merger and acquisition activity becomes intense and the market reaches a blow-off euphoria. Stocks correct in the second half as interest rates rise.
4. Although inflation remains benign, the price of gold rises above $1600 as investors across the world place more of their assets in something they consider “real.” Sovereign wealth funds of countries with significant dollar reserves also become big buyers. Hedge funds keep thinking the price rise is becoming parabolic and sell their positions and some even short the metal but gold keeps climbing and they scramble back in.
5. Worried about inflation and excessive growth, the Chinese decide to use their currency as a policy tool. They manage the value of the renminbi aggressively to keep the growth of the economy below 10% and to prevent consumer prices from increasing above the 4%–5% range. The move is viewed as a precursor to the world-wide adoption of a basket including the renminbi as an alternative to the use of the dollar as the principal reserve currency.
6. Rising standards of living in the developing world seriously increase the demand for agricultural commodities. The price of corn rises to $8.00, wheat to $10.00 and soybeans to $16.00. Commodities become a component of more institutional portfolios.
7. The housing situation improves. Although the inventory of unsold homes remains high, the oversupply is drawn down substantially, contrasting with an increase in 2010. The Case-Shiller gradually heads higher and housing starts exceed 600,000.
8. Continuing demand from the developing world and a failure to bring onstream new supply causes the price of oil to rise to $115 per barrel. The higher price at the pump fails to discourage driving, increase sales of hybrid vehicles or cause Congress to initiate conservation measures.
9. Frustrated by the lack of progress against the Taliban and the corruption of the Karzai government, President Obama concludes that whenever American troops return home, Afghanistan will once again become a tribal state ruled by warlords. He accelerates the withdrawal of most military personnel to the end of 2011. Coupled with the pullout of forces in Iraq, this will leave the Middle East without a major Western presence in the face of rising fears of terrorism.
10. Under duress Angela Merkel leads the way in European financial reform. The weaker countries, having pledged to cut their budget deficits in half by 2014, are provided additional transitional aid by the European Union (with Germany’s backing) and the International Monetary Fund as long as they implement their austerity programs, increase some taxes and still show modest growth. The European financial crisis becomes less of a concern. The policies put in place prove psychologically satisfying to the financial markets but harmful in the longer term because they are palliative and do not represent solutions.
“ALSO RANS”
11. While Afghanistan and Iraq cool down as trouble spots, Pakistan and North Korea flare up. The former continues to be a troublesome breeding ground for terrorists and the latter initiates further hostile attacks on South Korea. China does not become involved in a major way and the international community seems helpless.
12. The broad international sanctions on Iran finally begin to work. Mahmoud Ahmadinejad enters into negotiations to scale back the country’s nuclear weapons development program in exchange for financial aid and foreign investment. Pressure from the country’s youth to provide more economic opportunity is the key factor in the change in policy. Talk about bombing by Israel or the U.S. subsides.
13. Rising interest rates and a strong economy allow the dollar to strengthen against the euro and the yen. Although the European financial crisis abates as austerity programs and higher taxes are put in place and Japan avoids falling back into recession, America becomes the developed market of choice for global investors.
14. Sarah Palin announces she will seek the Republican nomination for President amidst the cheers of Tea Party supporters. More moderate Republicans fear her candidacy will diminish the chances of their party winning in 2012 and try to blunt her efforts. Rick Perry, governor of Texas becomes a contender. Mike Bloomberg is mentioned. On the Democratic side, liberals feel Obama has betrayed them and desperately try to find a challenger. With the economy improving the prospect of a second term for Obama becomes more likely.
15. The Russian government decides it is the laggard of the emerging markets and steps up its efforts to become more investor friendly. The Kremlin agrees to further nuclear weapons reduction and provides assurance to companies willing to invest there that the rule of law will prevail. The Russian equity market soars.
16. Laws related to marijuana usage are liberalized in more states. Recognizing that the drug may not be addictive, the public’s attitudes have evolved over the last thirty years, and this, along with a desire to alleviate the over-crowding of jails, causes state legislatures to take a more liberal position. Drug abuse groups are outraged.
17. Infrastructure problems in the United State become serious. New York subways are inoperative for days as a result of an electrical problem in the signal system. Gridlock snarls Los Angeles freeways, and to encourage cooperative commuting, high-occupancy vehicles are required to carry three or more people. State and local governments complain they lack the funds to deal with the problems and Washington refuses to help.
18. A major state fails to pay interest on a municipal bond issue because of a lack of funds, causing havoc in the municipal bond market.
19. In spite of fears of tenth anniversary terrorist attacks, 9/11/11 becomes a peaceful non-event because of excellent intelligence and surveillance.
20. While climate change activists remain shrill, the issue recedes in importance in the United States. Cold weather prevails during the winter and the summer heat is not oppressive. Support increases for a broader use of natural gas by utilities and public transportation and its price rises to $6.00 per mcf. In Europe and Asia however, environmental initiatives continue to move ahead.
Monday, January 31, 2011
Tuesday, January 18, 2011
Monday, January 17, 2011
Facebook vs. Groupon
With all of the hubbub about Facebook and Mark Zuckerberg these days, I want to remind you guys that they are not the only game in town.
In fact, there's another hottie at the dance who may not win homecoming queen, but could turn out to be better marriage material down the road.
Now that I have the attention of the feminazis and Facebook groupies, I crack open my umbrella and await the rainfall of hate and ridicule.
Groupon > Facebook...by a Country (wide) Mile
As most of you guys guffaw over Goldman's bucket shop production with Facebook as the lead, I am not impressed.
As Goldman does battle with Stanley over the coveted Groupon IPO,however, I am all eyes and ears.
This is the hot ticket in town, kids.
It's no secret that I am not a Facebook fan, not only due to the fact that I feel it is creating an even more socially retarded generation than the currently vegetative one. I am highly skeptical of Facebook's ability to monetize on all those hundreds of millions of users to the extent that the great hype machine would have us believe.
Groupon, on the other hand is a real deal old time, brick and mortar business. A cash cow, with a focused yet expansive niche.
Where Facebook is the silicone enhanced, makeup laden 10 with a fetish for cocaine, cowboys and the liquid diet.
Groupon's the solid 8 with great genetics, an angel's attitude, cooks, cleans, raises the kids, makes her own cash and has her head on straight.
Yeah...I just went there.
Groupon's recent rebuff of Google's $6 billion dollar takeover offer have sent (reasonable) IPO spec figures into the $15 billion range.
Though that is far beneath the (unreasonable) $50 billion Facebook valuation of a few weeks back, Groupon can actually back its valuation with a sea of revenue streams and (most importantly) a specific proven scalable business model.
I am going on the record. I like Groupon better than Facebook, as an investment vehicle.
In fact, I don't think Facebook is even in Groupon's league from the individual investor's perspective as far as returns go.
Of all the IPOs in recent memory, I think Groupon has the potential to be the greatest value play.
Facebook's not even in its league.
Let the hate...I mean debate begin!
Tuesday, January 4, 2011
Art Funds as Alternative Investment
According to Friedrich Kiradi, head of Merit Alternative Investments GmbH and director of the world-wide first Art Photography Fund. “Investments in material assets such as real estate, commodities, as well as art, continues to be an area that investors seem to be focusing on, with the growing importance of ‘art investment’ as bridge between the art and finance world.” In addition to the financial gains as an investor in the Art Photography Fund, holders are by request able to experience an “emotional yield” in receiving actual works held within the fund upon redemption. The Art Photography Fund has gained more than 15% since inception in March 2008.
“We are convinced that there are better opportunities for investing in sectors or artists that are currently not being ‘hyped’; but rather recognised pieces equalling the standard of works displayed in museums by ‘blue chip’ artists”, according to Johannes Faber, gallery owner and advisor to the fund. The performance of the Art Photography Fund has supported his argument, with the fund closing the rump year 2008 up 11.68% and gaining +3.11% in 2009 as of the end of May. With this, the fund was not only able to outperform equity and fixed income markets, but also various art market indices.
Blue Chip Art Works
The qualitative goal of the fund is to become the most important collection of icons in art photography of the classical modern period (approximately 1890 – 1960). The focus is on so-called Vintage Quality, in other words original prints, that the respective artists produced themselves or under their supervision. Of these prints, only a very limited number of copies are available in the open market, as many of these unique works are already held in museums or collections. This means that the supply is limited and continuously shrinking, while the demand is steadily rising.
Next to Johannes Faber, the art photography specialist and collector, Alexander Spuller, was also put in place as advisor to the fund. Their combined experience and network enables them to identify purchasing opportunities of undervalued pieces, while the portion of the fund held in cash enables them to react quickly to such opportunities.
“Our approach tends to be a buy and hold strategy, as investment in art always requires a longer-term investment horizon”, according to Spuller, “but selling of art works does occur on a regular basis”. Up to 50% of the annual performance should come from realised sales, so as to confirm the estimated values of holdings and also increase the cash reserves for further purchases. To date, actual sales prices achieved were approximately 10% above their respective last estimates given by the two independent valuers.
Besides the encouraging performance of +15.16% since inception in March 2008, the trio is excited about the first important exhibition. The Albertina Museum in Vienna has scheduled to display works of August Sander in January 2010. 70 pieces of works will be on display that the artist, one of the most important photographers of the 20th century, had chosen himself for his last exhibition. This mixed lot was purchased by the fund in the fall of 2008.
Broadly Diversified Portfolio
The collection of the fund is currently made up of over 1,100 works from 130 artists originating from the USA , Europe and Japan. The oldest piece is by Henry Fox-Talbot from 1843, while the youngest works by William Eggleston, Lee Freedlander and William Wegman are from the 1980s. The scope of works covers all epochs of photography and includes early salted paper prints to more recent “dye-transfer prints”. The majority of photographers represented in the fund’s holdings are considered by art historians and critics as “Old Masters of Photography”, such as Man Ray, Henri Cartier-Bresson or Ansel Adams (please see list of artists). In addition, the fund also includes several works and artists with growth potential.
Plans for an Advisory Committee
“We are currently in discussion with representatives of the financial community as well as the international art scene, as we want to have a balanced composition of members advising and supporting the fund”, according to Spuller regarding the future. The fund’s current capacity is around EUR 70 million, at which point the fund will be closed for new investments, so as to ensure that the performance targets will not be affected. The aim is to reach this target by 2011.
Art Photography Fund
The world-wide first fund investing in art photography targets institutional investors such as banks, insurance companies and foundations. Today, subscriptions into the fund can be made at most Austrian banks, in some cases with smaller denominations, as well as being used by asset managers and private bankers. Subscriptions and redemptions can be made on a quarterly basis, with the next date for investment on 30.06.2009. Up-to-date information and monthly estimated NAVs of the Art Photography Fund can be found on the homepage: www.artphotographyfund.com
Johannes Faber
Born 1952 in Vienna , lives in Vienna as gallery owner and curator. In 1983 founded a gallery for photography that has been active in international art dealing since 1995. Since then, advising national and international private collectors and museums in putting together photography collections. His activities exclusively focus on dealing in vintage prints of photography of the classical modern period of the 20th century, that are, among others, presented at world-wide renowned art fairs such as Art-Basel, ArtCologne, ARCO-Madrid, Paris-Photo, Photography-Show New York and Viennafair. The Gallery Johannes Faber is a member of AIPAD (The Association of International Photography Art Dealers) and the Association of Austrian Galleries of Modern Art, of which Mr. Faber was Chairman between 2004 and 2006.
Alexander Spuller
Born in Vienna in 1970. After graduating with a degree in construction engineering and law, Mr. Spuller worked in his family construction business. Since 1990, A. Spuller completed various property projects in Austria , the Czech Republic and Vietnam . In 1998 Mr. Spuller began collecting art photography, and from 1999 started specializing on works of the classical modern period. In 2005 he was appointed Vice Director of the Gallery Johannes Faber.
Friedrich Kiradi
Friedrich Kiradi is Managing Partner of the Merit-Group and Chief Executive of MERIT Alternative Investments GmbH, a fully licensed investment company by the Austrian Financial Market Authority (FMA), that specialises on the management of funds in managed futures, absolute return/equity hedged and real assets (commodity, art). Further areas of business of companies within the Merit-Group include asset management for foundations and risk management for corporations. Merit is regarded as independent competence centre for all applications of financial derivative instruments, and has specialised on structuring innovative and customised products for banks, fund management companies and industrial clients. The company was founded in 1988 and currently employs 40 professionals in their office in Austria , Malta and the USA.
“We are convinced that there are better opportunities for investing in sectors or artists that are currently not being ‘hyped’; but rather recognised pieces equalling the standard of works displayed in museums by ‘blue chip’ artists”, according to Johannes Faber, gallery owner and advisor to the fund. The performance of the Art Photography Fund has supported his argument, with the fund closing the rump year 2008 up 11.68% and gaining +3.11% in 2009 as of the end of May. With this, the fund was not only able to outperform equity and fixed income markets, but also various art market indices.
Blue Chip Art Works
The qualitative goal of the fund is to become the most important collection of icons in art photography of the classical modern period (approximately 1890 – 1960). The focus is on so-called Vintage Quality, in other words original prints, that the respective artists produced themselves or under their supervision. Of these prints, only a very limited number of copies are available in the open market, as many of these unique works are already held in museums or collections. This means that the supply is limited and continuously shrinking, while the demand is steadily rising.
Next to Johannes Faber, the art photography specialist and collector, Alexander Spuller, was also put in place as advisor to the fund. Their combined experience and network enables them to identify purchasing opportunities of undervalued pieces, while the portion of the fund held in cash enables them to react quickly to such opportunities.
“Our approach tends to be a buy and hold strategy, as investment in art always requires a longer-term investment horizon”, according to Spuller, “but selling of art works does occur on a regular basis”. Up to 50% of the annual performance should come from realised sales, so as to confirm the estimated values of holdings and also increase the cash reserves for further purchases. To date, actual sales prices achieved were approximately 10% above their respective last estimates given by the two independent valuers.
Besides the encouraging performance of +15.16% since inception in March 2008, the trio is excited about the first important exhibition. The Albertina Museum in Vienna has scheduled to display works of August Sander in January 2010. 70 pieces of works will be on display that the artist, one of the most important photographers of the 20th century, had chosen himself for his last exhibition. This mixed lot was purchased by the fund in the fall of 2008.
Broadly Diversified Portfolio
The collection of the fund is currently made up of over 1,100 works from 130 artists originating from the USA , Europe and Japan. The oldest piece is by Henry Fox-Talbot from 1843, while the youngest works by William Eggleston, Lee Freedlander and William Wegman are from the 1980s. The scope of works covers all epochs of photography and includes early salted paper prints to more recent “dye-transfer prints”. The majority of photographers represented in the fund’s holdings are considered by art historians and critics as “Old Masters of Photography”, such as Man Ray, Henri Cartier-Bresson or Ansel Adams (please see list of artists). In addition, the fund also includes several works and artists with growth potential.
Plans for an Advisory Committee
“We are currently in discussion with representatives of the financial community as well as the international art scene, as we want to have a balanced composition of members advising and supporting the fund”, according to Spuller regarding the future. The fund’s current capacity is around EUR 70 million, at which point the fund will be closed for new investments, so as to ensure that the performance targets will not be affected. The aim is to reach this target by 2011.
Art Photography Fund
The world-wide first fund investing in art photography targets institutional investors such as banks, insurance companies and foundations. Today, subscriptions into the fund can be made at most Austrian banks, in some cases with smaller denominations, as well as being used by asset managers and private bankers. Subscriptions and redemptions can be made on a quarterly basis, with the next date for investment on 30.06.2009. Up-to-date information and monthly estimated NAVs of the Art Photography Fund can be found on the homepage: www.artphotographyfund.com
Johannes Faber
Born 1952 in Vienna , lives in Vienna as gallery owner and curator. In 1983 founded a gallery for photography that has been active in international art dealing since 1995. Since then, advising national and international private collectors and museums in putting together photography collections. His activities exclusively focus on dealing in vintage prints of photography of the classical modern period of the 20th century, that are, among others, presented at world-wide renowned art fairs such as Art-Basel, ArtCologne, ARCO-Madrid, Paris-Photo, Photography-Show New York and Viennafair. The Gallery Johannes Faber is a member of AIPAD (The Association of International Photography Art Dealers) and the Association of Austrian Galleries of Modern Art, of which Mr. Faber was Chairman between 2004 and 2006.
Alexander Spuller
Born in Vienna in 1970. After graduating with a degree in construction engineering and law, Mr. Spuller worked in his family construction business. Since 1990, A. Spuller completed various property projects in Austria , the Czech Republic and Vietnam . In 1998 Mr. Spuller began collecting art photography, and from 1999 started specializing on works of the classical modern period. In 2005 he was appointed Vice Director of the Gallery Johannes Faber.
Friedrich Kiradi
Friedrich Kiradi is Managing Partner of the Merit-Group and Chief Executive of MERIT Alternative Investments GmbH, a fully licensed investment company by the Austrian Financial Market Authority (FMA), that specialises on the management of funds in managed futures, absolute return/equity hedged and real assets (commodity, art). Further areas of business of companies within the Merit-Group include asset management for foundations and risk management for corporations. Merit is regarded as independent competence centre for all applications of financial derivative instruments, and has specialised on structuring innovative and customised products for banks, fund management companies and industrial clients. The company was founded in 1988 and currently employs 40 professionals in their office in Austria , Malta and the USA.
Saturday, January 1, 2011
A Review of Predictions of the Last Decade
Jeffrey came to the new year eve party last night and mentioned his latest post, quite impressive predictions, I especially like/respect his resolution, though wonder how accurate Econ prediction can be, without thinking politically.
==================
December 31 is technically the end of the first decade of the 21st century. It is perhaps an appropriate time to review one’s predictions. It seems to me that I got some things right over the last decade. Indulge me while I review the predictions that came true, before turning to those that did not work out as well.
Stock market peak At the end of the 1990s, I felt that the dizzying ascent of equity prices could not continue into the new decade, that there was “…a bubble component in the stock market” (Nov. 20, 1999). This was four months before the bubble burst in 2000. So far so good.
Exchange rate Also at the start of the decade, I thought the euro was undervalued. My prophesy: “… there will be a major appreciation of the euro against the dollar” (June 21, 2000). Over the next eight years the euro in fact rose 60% in value.
TIPS I recommended Treasury Inflation-Protected Securities to my blog readers, early in what turned out to be a period of steep rise in their value. (Feb. 2009.)
The big economic story of the decade of course was its second recession, the worst in 70 years, and the severe financial crisis that caused it. A number of economists got important parts of the 2007-09 crisis right ahead of time (although nobody got all of it right). I give credit in particular to Krugman, Shiller, Gramlich, Rajan, Borio and White at the BIS, Rogoff, and Roubini. 12 are identified in a 2009 paper.
What parts did I get right?
Severity of recession After the tax cuts of 2001 and 2003, I predicted that spending growth and deficits would rise rather than fall, and that the legacy of high debt would mean that the next recession would be longer and more severe than past recessions:
”Good economic logic does not support the idea that Bush fiscal policies caused the weak economy of the last three years. Good economic logic supports, rather, a causal link between Bush fiscal policies and the next recession. The future downturn is likely to be far worse than the recent one…They also created long-range uncertainty that makes planning difficult (nobody from either party expects the relevant tax law to remain as it is currently written)… It is impossible to say when the next recession will come. But when it does, it is likely to be worse than the 2001 recession. Why? Precisely because we will enter it at a time when the budget deficit and national debt are already alarmingly high…Thus when the next recession hits, we will not have luxury of being able to cut taxes and increase spending as George II has done. … The resulting pain will make the economic travails of George II’s first term pale in comparison…” (Oct. 30, 2003. Also Dec.2003 and Nov.2004).
That seems to me precisely what has happened.
Budget deficits Like many others, I continued throughout the decade to warn that fiscal policy was irresponsible. The “White House forecast of cutting budget deficit in half by 2009 will not be met,” and “Further, the much more serious deterioration will start after 2009.” (May 24, 2006.)
Market underestimation of risk I was dubious of the “Great Moderation.” By 2006, I was warning frequently of serious risks facing the economy, arguing that even though the odds of each sort of possible setback were small in any given year, the cumulative probability that at least one of them would hit the economy over the next couple of years was relatively high. (May 24, 2006.) The markets were underestimating this risk:
”How can the implied volatility in options prices be so low? Perhaps investors are judging risk solely from the statistics of recent history, and not from a forward-looking open-eyed consideration of the risks facing the global economy.” (Nov. 2006.) “The implicit volatilities in options prices are substantially too low, and will rise. … market estimates of risk are lower than they should be. … the market is basing its perception of risk on recent history, not on a forward-looking assessment of the risks facing the US and global economies. Such risks include further falls in housing or rises in oil, a hard landing for the dollar, and geopolitical risks arising from the Middle East.” (Jan.12, 2007.)
The VIX (the CBOE index of market-expected volatility) was close to 10 when that was written. It was to go as high as 80 when the full financial crisis hit in 2008.
The carry trade “should be reversing.” (Jan.12, 2007.) Market perceptions of risk had “fallen to irrational lows, as reflected in the low interest rates at which governments of developing countries, unqualified American homebuyers and high-risk businesses could borrow money.” (Nov.19, 2007, and Jan. 2008.)
International crises When asked “Have financial developments made the international Monetary Fund obsolete?” my answer was “The IMF is by no means obsolete. …. It is foolhardy to think, just because emerging market spreads have been very low recently, that there will be no more crises in the future.” (March 1, 2007)
The coming financial crash The comments I made at a Cato conference held in November 2006, shortly before the sub-prime mortgage crisis hit in 2007, look pretty good now:
”The Greenspan Fed probably erred by providing too much liquidity in 2001-2004….If the Fed erred in keeping interest rates so low so long after the 2001 recession, what cost are we paying? None yet; but dangers lie in the future. It is not that I am especially worried about inflation at the moment. … what cost do I fear might come from the extraordinarily easy monetary policy of 2001-04? As the Bank for International Settlements points out, some of the biggest financial crashes and some of the longest recession periods have followed liquidity-fed booms that never did show up as goods inflation, but rather as asset inflation…” (In Responding to Crises, Cato Journal, Spring 2007.)
Housing Of the various asset markets, housing was the area where policy had most clearly gone awry. I had long thought “that some people were being pushed to buy houses who couldn’t afford it, that (mirabile dictu) there was such a thing as too high a rate of national homeownership, and that the default rate would shoot up as soon as real interest rates rose or house prices stopped rising.” (March 26, 2007.) “Many people bought houses they could not afford unless prices continued to rise rapidly or real interest rates remained extraordinarily low, which predictably did not happen.” (April 28, 2007.)
The start of the recession I never tried to guess the starting date of the crisis. Once it had begun, some of the economists first out of the gates were Roubini, Summers, and Feldstein. I was not as quick. But at least I had figured out by May 2008 that a recession was probably underway– at a time when some Administration officials were still ruling it out and indeed GDP figures appeared to show positive growth in the first part of that year.
Banking crisis resolution When the Obama Administration announced its revised form of the Bush Administration’s Troubled Asset Relief Program, I argued that maybe they actually knew what they were doing and that the plan should be given a chance to work. (March 23, 2009.) I felt pretty isolated. Others attacked the plan, from both left and right. They expected Tim Geithner’s stress tests to be phony. The critics were sure that the taxpayer would end up paying hundreds of billions of dollars to bail out the banks. They wanted either to nationalize the banks or leave everything to the free market. As things developed, however, financial collapse was averted without nationalization and the banks have since repaid the Treasury with interest.
The trough Financial markets stabilized in the first half of 2009. Turnarounds in the rates of growth and job loss led me to believe in the summer of 2009 that the economy had probably hit bottom by then. This turns out in fact to have been the case: The record shows that the recession ended that June.
Predictions gone wrong Needless to say, I got plenty wrong in the decade as well. For one thing, I kept expecting U.S. long-term interest rates to rise, because of the alarming long-term fiscal profile. Yet the bond market correction never came. For another thing, based on econometric estimation of reserve currency holdings, Menzie Chinn and I projected that the euro might eventually rival the dollar by 2015 or 2022. Those dates are still aways off. But it now seems unlikely. I certainly thought that the sort of financial crisis that began in the U.S. in 2007-08 would be accompanied by a fall in the dollar. Yet flows into the U.S. showed that the dollar is still a safe haven. For this reason I abandoned my euro-bullishness, even before the mismanaged Greek crisis in early 2010.
My most spectacularly wrong predictions were all in the area of politics. I had thought that if any presidential candidate gained the White House without winning the popular vote, his entire term would be consumed by divisive efforts to reform the Electoral College. (This did not happen after January 2001.) I had thought that if a high-casualty international terrorist attack hit the U.S. (September 11, 2001), American foreign policy would thereafter become ruled less by jingoism and more by expertise. (Not!) In 2008 I suspected that a Democrat who was perceived as a northern liberal could not be elected president. (Wrong again.)
In the coming decade, I resolve to eschew political forecasts, and stick to economics.
==================
December 31 is technically the end of the first decade of the 21st century. It is perhaps an appropriate time to review one’s predictions. It seems to me that I got some things right over the last decade. Indulge me while I review the predictions that came true, before turning to those that did not work out as well.
Stock market peak At the end of the 1990s, I felt that the dizzying ascent of equity prices could not continue into the new decade, that there was “…a bubble component in the stock market” (Nov. 20, 1999). This was four months before the bubble burst in 2000. So far so good.
Exchange rate Also at the start of the decade, I thought the euro was undervalued. My prophesy: “… there will be a major appreciation of the euro against the dollar” (June 21, 2000). Over the next eight years the euro in fact rose 60% in value.
TIPS I recommended Treasury Inflation-Protected Securities to my blog readers, early in what turned out to be a period of steep rise in their value. (Feb. 2009.)
The big economic story of the decade of course was its second recession, the worst in 70 years, and the severe financial crisis that caused it. A number of economists got important parts of the 2007-09 crisis right ahead of time (although nobody got all of it right). I give credit in particular to Krugman, Shiller, Gramlich, Rajan, Borio and White at the BIS, Rogoff, and Roubini. 12 are identified in a 2009 paper.
What parts did I get right?
Severity of recession After the tax cuts of 2001 and 2003, I predicted that spending growth and deficits would rise rather than fall, and that the legacy of high debt would mean that the next recession would be longer and more severe than past recessions:
”Good economic logic does not support the idea that Bush fiscal policies caused the weak economy of the last three years. Good economic logic supports, rather, a causal link between Bush fiscal policies and the next recession. The future downturn is likely to be far worse than the recent one…They also created long-range uncertainty that makes planning difficult (nobody from either party expects the relevant tax law to remain as it is currently written)… It is impossible to say when the next recession will come. But when it does, it is likely to be worse than the 2001 recession. Why? Precisely because we will enter it at a time when the budget deficit and national debt are already alarmingly high…Thus when the next recession hits, we will not have luxury of being able to cut taxes and increase spending as George II has done. … The resulting pain will make the economic travails of George II’s first term pale in comparison…” (Oct. 30, 2003. Also Dec.2003 and Nov.2004).
That seems to me precisely what has happened.
Budget deficits Like many others, I continued throughout the decade to warn that fiscal policy was irresponsible. The “White House forecast of cutting budget deficit in half by 2009 will not be met,” and “Further, the much more serious deterioration will start after 2009.” (May 24, 2006.)
Market underestimation of risk I was dubious of the “Great Moderation.” By 2006, I was warning frequently of serious risks facing the economy, arguing that even though the odds of each sort of possible setback were small in any given year, the cumulative probability that at least one of them would hit the economy over the next couple of years was relatively high. (May 24, 2006.) The markets were underestimating this risk:
”How can the implied volatility in options prices be so low? Perhaps investors are judging risk solely from the statistics of recent history, and not from a forward-looking open-eyed consideration of the risks facing the global economy.” (Nov. 2006.) “The implicit volatilities in options prices are substantially too low, and will rise. … market estimates of risk are lower than they should be. … the market is basing its perception of risk on recent history, not on a forward-looking assessment of the risks facing the US and global economies. Such risks include further falls in housing or rises in oil, a hard landing for the dollar, and geopolitical risks arising from the Middle East.” (Jan.12, 2007.)
The VIX (the CBOE index of market-expected volatility) was close to 10 when that was written. It was to go as high as 80 when the full financial crisis hit in 2008.
The carry trade “should be reversing.” (Jan.12, 2007.) Market perceptions of risk had “fallen to irrational lows, as reflected in the low interest rates at which governments of developing countries, unqualified American homebuyers and high-risk businesses could borrow money.” (Nov.19, 2007, and Jan. 2008.)
International crises When asked “Have financial developments made the international Monetary Fund obsolete?” my answer was “The IMF is by no means obsolete. …. It is foolhardy to think, just because emerging market spreads have been very low recently, that there will be no more crises in the future.” (March 1, 2007)
The coming financial crash The comments I made at a Cato conference held in November 2006, shortly before the sub-prime mortgage crisis hit in 2007, look pretty good now:
”The Greenspan Fed probably erred by providing too much liquidity in 2001-2004….If the Fed erred in keeping interest rates so low so long after the 2001 recession, what cost are we paying? None yet; but dangers lie in the future. It is not that I am especially worried about inflation at the moment. … what cost do I fear might come from the extraordinarily easy monetary policy of 2001-04? As the Bank for International Settlements points out, some of the biggest financial crashes and some of the longest recession periods have followed liquidity-fed booms that never did show up as goods inflation, but rather as asset inflation…” (In Responding to Crises, Cato Journal, Spring 2007.)
Housing Of the various asset markets, housing was the area where policy had most clearly gone awry. I had long thought “that some people were being pushed to buy houses who couldn’t afford it, that (mirabile dictu) there was such a thing as too high a rate of national homeownership, and that the default rate would shoot up as soon as real interest rates rose or house prices stopped rising.” (March 26, 2007.) “Many people bought houses they could not afford unless prices continued to rise rapidly or real interest rates remained extraordinarily low, which predictably did not happen.” (April 28, 2007.)
The start of the recession I never tried to guess the starting date of the crisis. Once it had begun, some of the economists first out of the gates were Roubini, Summers, and Feldstein. I was not as quick. But at least I had figured out by May 2008 that a recession was probably underway– at a time when some Administration officials were still ruling it out and indeed GDP figures appeared to show positive growth in the first part of that year.
Banking crisis resolution When the Obama Administration announced its revised form of the Bush Administration’s Troubled Asset Relief Program, I argued that maybe they actually knew what they were doing and that the plan should be given a chance to work. (March 23, 2009.) I felt pretty isolated. Others attacked the plan, from both left and right. They expected Tim Geithner’s stress tests to be phony. The critics were sure that the taxpayer would end up paying hundreds of billions of dollars to bail out the banks. They wanted either to nationalize the banks or leave everything to the free market. As things developed, however, financial collapse was averted without nationalization and the banks have since repaid the Treasury with interest.
The trough Financial markets stabilized in the first half of 2009. Turnarounds in the rates of growth and job loss led me to believe in the summer of 2009 that the economy had probably hit bottom by then. This turns out in fact to have been the case: The record shows that the recession ended that June.
Predictions gone wrong Needless to say, I got plenty wrong in the decade as well. For one thing, I kept expecting U.S. long-term interest rates to rise, because of the alarming long-term fiscal profile. Yet the bond market correction never came. For another thing, based on econometric estimation of reserve currency holdings, Menzie Chinn and I projected that the euro might eventually rival the dollar by 2015 or 2022. Those dates are still aways off. But it now seems unlikely. I certainly thought that the sort of financial crisis that began in the U.S. in 2007-08 would be accompanied by a fall in the dollar. Yet flows into the U.S. showed that the dollar is still a safe haven. For this reason I abandoned my euro-bullishness, even before the mismanaged Greek crisis in early 2010.
My most spectacularly wrong predictions were all in the area of politics. I had thought that if any presidential candidate gained the White House without winning the popular vote, his entire term would be consumed by divisive efforts to reform the Electoral College. (This did not happen after January 2001.) I had thought that if a high-casualty international terrorist attack hit the U.S. (September 11, 2001), American foreign policy would thereafter become ruled less by jingoism and more by expertise. (Not!) In 2008 I suspected that a Democrat who was perceived as a northern liberal could not be elected president. (Wrong again.)
In the coming decade, I resolve to eschew political forecasts, and stick to economics.
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