Questions

By Joseph Calhoun of Alhambra

Why is inflation ex-food and energy considered core? Isn’t food and gas about as core as it gets for most people? Why do economists think it is important to stabilize the price of luxuries but not the price of needs? As a society shouldn’t we prefer a monetary policy that stabilizes food, energy and shelter prices first? Shouldn’t the poorest among us be protected from price swings in the things they need most?

Why do so many economists believe that more people working leads to inflation? Is there any evidence the Phillips curve really works the way Yellen and so many other economists believe? None of which I’m aware. In fact, the A.W. Phillips study proved nothing more than that real wages rise as the unemployment rate falls. It said nothing about any general rise in prices. If a previously unemployed person goes to work shouldn’t the added supply of goods and services they produce be sufficient to offset their increased demand? If not, doesn’t that imply they aren’t productive enough to be doing that job? The idea that a small group of economists at the Federal Reserve can determine the proper unemployment rate is the height of arrogance.

What will happen to the commercial real estate industry as the malls continue to empty? Yes, Amazon is part of this story but the fact is that the US is over-stored and has been for some time. By some measures the US has nearly 6 times the retail space per capita than the UK, Europe and Japan. So what happens to the empty space? Some of it will be destroyed for sure but a lot of it will have to be re-purposed. So, if the local mall with empty space where the Sears or Macy’s or KMart or JC Penney used to be starts leasing it out as office space at say, $5/sq. ft. what does that do to office building rents?

What does it mean that bonds recently have been more volatile than stocks? Starting in March the 10 year Treasury note yield has fallen 17% (2.615 to 2.177), risen 11% (2.177 to 2.423), fell 13% (2.423 to 2.103), rose 14% (2.103 to 2.396) and fell 5% (2.396 to 2.268 so far). Those are pretty big moves for such a short period of time. Yes, the price move in bonds is less than those yield numbers but the bond market moves in this cycle have generally been more extreme than the last one. Part of the reason may be the unusual nature of this expansion. It has been long and shallow but also volatile with slowdowns that never develop into recessions and upturns that never turn into anything better and durable. The bond market seems to overshoot in both directions. One other possibility is that the bond market is being driven more by central bank yapping than anything else. The last few weeks are a great example. Bond yields fell as the Fed sounded hawkish, rebounded as Draghi hinted at ending ECB QE and have now fallen as Yellen turned dovish in testimony. Maybe if they’d shut up the bond market would calm down. It would sure make my job easier.

How much further can the dollar fall? At the beginning of this year we were nearly alone in thinking the dollar was headed lower. Indeed, the fact that nearly everyone was bullish was a major reason I thought it was probably headed in the opposite direction. Not terribly sophisticated I suppose but the truth nonetheless. There were other reasons, most prominently the new occupant of the White House. Trump has made it clear he’d like a cheaper dollar and Presidents usually get the dollar they want. But worries me now is the sentiment factor. Coming into this year, speculators were very long dollars while commercial hedgers were very short. Now, the commercials have mostly covered and the speculators are back to neutral. The positioning is about the same as it was prior to the big rally that started in early 2014. And about the same as it was prior to the post-election rally. So how long before the buck rallies?

How much will student loan defaults add to the national debt in coming years and does it matter? With the government now the proud owner of most of that $1 trillion in new student debt issued since 2010, how much of that will default or be forgiven? I’ll be shocked if the default rate is less than 50% so how does a $500 billion write down affect the government’s balance sheet?

Could the reversal of QE actually be inflationary? I know it sounds crazy but so much of economics is counter-intuitive that it has to be considered. Certainly there was no surge in inflation during QE, although it did have an impact on inflation expectations while it was going on. But there was never any follow through after it ended. Indeed, one could easily make an argument that QE was actually deflationary. If that is so, then will the reversal actually cause some inflation? Jeff knows a lot more about this than I do and he says no, that QE actually had almost no real effect, that it was mostly psychological. Maybe, but I am not convinced. Maybe the end of really easy money means the end of easy ways to goose earnings through buybacks. Maybe the end of QE will make companies get off their duffs and invest in their businesses to try and make those big earnings gains predicted by Wall Street. Maybe the reversal of QE will produce some real engineering rather than just the financial kind. Maybe….

Thus ends another edition of Questions. What say you readers?

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