Top of the Street

In the best recent work from the Street and elsewhere, the case for historically low but fragile real economic growth continues to build even as US inflation looks set to rise. Barclays, U of Chicago and Goldman paint that picture. Nominal rates could rise, but only to the extent that inflation pushes them up. And Barclays sheds light on the hoard of corporate cash in the US and whether money market mutual funds might draw those balances out of the bank system as rates rise.

Productivity: working hard, falling short
Michael Gapen, Rob Martin and Jesse Hurwitz, Barclays
04 March 2016

As economic growth goes, so go rates, the quality of lending books and the return on other risk assets.  And more analysts are focusing on productivity as the key to the prospects for growth, including these authors.

It’s no secret that US economic productivity has tumbled from nearly 3% in the late 1990s to slightly more than 1% in the 2000s to an average of 0.5% since 2010. That means that most GDP growth in recent year has come from an expanding labor force – people, hours worked or both.

This has sobering implications for potential growth, according to these analysts. At the pace of productivity growth in the late 1990s, GDP would double every 24 years. At the pace of the 2000s, it would double every 58 years. And at the current pace, it would double every 138 years. That would represent a significant slowdown in the arc of quality of living. Improvements in the day-to-day quality of life could slow to a barely perceptible rate.

The biggest declines in productivity have come in manufacturing and information, but it’s not clear why. Investment in equipment has dropped, raising the average age and likely lowering the productivity of equipment. Industry may be failing to adapt new technologies, or perhaps the latest generation of equipment really doesn’t do much more than the older stuff. Older workers also continue to retire, taking human capital out of the workforce.

Other analysts have wrung their hands over poor productivity, including Mario Borio at the BIS, although none have pointed to a solution. Perhaps it’s the heavy load of debt. Perhaps it’s the ongoing recapitalization of the banking industry. Perhaps shrinking human capital. It is a persistent problem with no apparent quick fix. Slow growth, and the risks that go with it, could be with us for years.

Challenges to Mismeasurement Explanations for the US Productivity Slowdown
Chad Syverson, University of Chicago Booth School of Business
January 2016

Some optimists among the dismal scientists have argued that the slowdown in US productivity is more illusion than fact. Traditional measures of GDP just miss the value that new technologies deliver. If economists would just measure the value of time spent on smartphones and social media instead of just measuring their price, the contribution to GDP and productivity would be bigger. Syverson has accepted this challenge and finds that it doesn’t wash.

Syverson notes that if the measured slowdown in productivity over the last 10 years is wrong, then measured US GDP is missing $2.7 trillion – $8,400 for every person and $21,900 for every household in the US. Syverson goes looking for the culprits.

Syverson first finds that productivity has been slowing at roughly the same time and pace across at least two dozen other advanced economies. While this could just mean mismeasurement is rampant, he finds falling productivity regardless of the size of the communications and technology sector in each economy. A smaller IT sector would presumably reduce the measurement problem, but a drop in productivity still shows up.

He next looks at research that has tried to measure the consumer value of technology, including the value of time spent on internet technology. The study that uses the most generous assumptions about the value of consumers’ time still only explains at most a third of the missing GDP.

Syverson then looks at the growth rate of internet and digital industries. If mismeasurement entirely explains slowing productivity, the growth rate of these industries would be five times their actual change in revenue.

Finally, Syverson looks at the disconnect between Gross Domestic Income and Gross Domestic Product. Both should be equal, in theory, but differ in practice because they use different data sources. GDI has outstripped GDP since 2004, possibly implying that workers are getting paid well to produce products that are given away free or at a discount. That would line up with mismeasurement. But Syverson observes that GDI began to outpace GDP in 1998, years before the observed slowdown in productivity. And he traces the gain in GDI to a rise in return to capital, that is, corporate profits. Labor income has fallen, counter to the case for product give-aways.

Mismeasurement may explain some of the apparent drop in productivity, but not enough to explain away the core of the problem.

Divergence Lives
Sven Jari Stehn and Jan Hatzius, Goldman Sachs
04 March 2016

US core PCE inflation recently rebounded to 1.7%, just 0.3% below the Fed’s target. The euro zone and Japan, however, have seen core inflation fall further below central bank targets.

To assess whether this divergence across the economies might continue, the authors model core inflation based on lagged levels, inflation expectations, slack in the economy, changes in trade-weighted exchange rates and in crude oil prices. The models show that slack helps predict core inflation across the economies, although sensitivity varies.

The punchline to the piece is that Stehn and Hatzius see divergence continuing. US inflation should rise through 2016-2017 and exceed the Fed target by early 2018 on the back of strong labor, stable oil and limited impact from a stronger dollar. Euro zone inflation stays roughly unchanged through 2016-2018, as it does in Japan.

Despite the globalization of commerce and capital, Stehn and Hatzius argue that the US is on its own path.

Non-financial cash hoard
Joseph Abate, Barclays
04 March 2016

Corporate treasurers have stockpiled lots of cash in the last few years, with a big slug sitting in bank accounts. But unlike the last episode of Fed hiking when money funds lured cash out of banks, this author argues that this time may be different – if not in the direction of flow from banks to funds then at least in magnitude.

Non-financial companies in the US have added $260 billion in cash to their coffers since 2012 and now hold more than $1 trillion of their stockpile in bank checking accounts, money market funds and overseas deposits. When it comes to share of those funds, checking accounts have the big momentum. The share of corporate cash in money funds has dropped from 66% at the end of 2012 to 55% today while the share in checking accounts has jumped from 28% to 39% to total $408 billion.

History would say that the tide should turn as the Fed starts hiking. Money funds in the round of hikes that started in 2004 raised rates aggressively. By July 2008, the 1.94% 7-day yield on money funds matched the average rate on 6-month bank certificates of deposit. The average checking account paid 0.24%. Corporate cash balances in checking accounts dropped by 60% from March 2004 to July 2008 while balances in money funds more than doubled.

Unlike the last round of Fed hikes, however, the yields in money funds over the next several years may prove less of a draw for corporate treasurers. Money fund reform has left prime funds – most able to offer higher yields – with floating NAVs, liquidity fees and redemption gates. Money funds that only own government debt will keep their par NAVs and avoid the exit tolls, but the 7-day yield on those funds since December has only managed to reach 10 bp. Money market funds may be much less of a threat this time around.