Mish's Global Economic Trend Analysis

Not Just Manufacturing: Strong Warning Services About to Stall
Bargaining With the Devil: Germany Bribes Turkey With Aid Package, EU Sidelines Highly Critical Report on Turkey’s Free Speech Record
Industrial Production Declines Again, Down Eighth Time in Nine Months
Can the Fed Really Print Money? What Would Negative Interest Rates Do?

Not Just Manufacturing: Strong Warning Services About to Stall

Posted: 16 Oct 2015 01:38 PM PDT

Following a huge string of terrible manufacturing reports from nearly every Fed region, I received this headline report from the New York Fed: Regional Service Sector Resilient even as Manufacturing Slumps.

The October 2015 Business Leaders Survey of regional service firms, released today, paints a considerably more benign picture of local business conditions than the more troubling October 2015 Empire State Manufacturing Survey, released yesterday. The two surveys point to diverging trends in the regional economy: manufacturing firms report that business activity has weakened, on balance, for the third month in a row, while regional service firms, though far from euphoric, remain slightly positive, on balance, about business trends. One of the reasons for this divergence seems to be the strong dollar, which has had negative effects on far more manufacturers than service firms, according to our surveys.

The Empire State Manufacturing Survey has been giving signals of weakness for the past several months. The headline index hovered around zero—the breakeven level at which the same number of firms characterize activity as increasing as declining—from April through July, and then tumbled to below -10 from August through October. The last time the survey's headline index remained this negative for this long was during the deepest part of the Great Recession, from the fall of 2008 to the spring of 2009. This would be a worrisome sign indeed if it were matched by comparable negativity in the service sector—as was the case in 2008 and 2009. However, over the last three months, the headline index from the service sector survey has remained at least slightly above zero, marking the most sustained divergence between the two surveys in this direction since they have both been in the field (beginning in 2005).

Services Resilient?

The Business Leaders Survey blamed manufacturing on the strong dollar. But what about services? Let's dive into the report for details.

Business Index, Business Climate

For three months the business index was barely above contraction. The September reading was 3.76 and October 3.01. The business climate component has been negative or zero for over a year, only touching the zero-line once. I suspect the difference between prices paid and received has much to do with business climate.

Prices Paid, Prices Received, Capital Spending

Although both prices paid and prices received are in positive territory, check out the huge divergence. Far more firms are reporting input prices up than prices received.

The prices paid index rose from 32.84 in September to 33.33 in October. However, the price received component fell from 11.36 to 5.38. Another drop like that and prices received will be in contraction.

And note Capital Spending collapsing towards contraction. The index fell from 4.55 in September to a barely positive 2.31 in October.

Wages and Employment

Wages and employment are both well in positive territory, but how good is it that wages are going up, input prices are raising, while prices received are close to contraction?

Ominous Trends

Some ominous trends are on the horizon in capital spending, prices received, business activity, with the business climate solidly divergent from the other positive readings.

This report is a strong warning sign that services may be ready to stall.

Mike "Mish" Shedlock

Bargaining With the Devil: Germany Bribes Turkey With Aid Package, EU Sidelines Highly Critical Report on Turkey’s Free Speech Record

Posted: 16 Oct 2015 12:29 PM PDT

If it takes bribes and turning a blind eye to blatant corruption to get a needed favor, then one can expect bribes and two blind eyes.

The Bribes

In order to slow Syrian refugees entering Europe, Merkel Backs Multibillion-Euro Refugee Package for Turkey.

German chancellor Angela Merkel has backed giving Turkey a multibillion-euro aid package to cope with refugees, giving impetus to a provisional EU deal with Ankara that aims to slow the flow of migrants to the EU.

Commission officials briefed EU ambassadors on Thursday on the Turkish requirements for completing the terms of the action plan, including €3bn in fresh funds; unblocking about five chapters in Turkey's EU membership negotiations; and visa-free access for 75m Turks to the Schengen border-free area from as soon as 2016.

Mr Erdogan also made clear that Turkey would expect to be included in an EU "safe list", which would make it easier to reject Turkish asylum seekers.

In return, Turkey pledges strengthen its border controls — including greater co-operation with Greece, which has seen a massive influx of refugees from the region.

In exchange for visa privileges, Turkey would complete a "readmission" deal to take back third-country asylum seekers that entered the EU from Turkish territory. Turkey would eventually also give the 2m Syrian refugees a legal route to make a living in Turkey, reducing the incentives to attempt to enter Europe.

Blind Eyes: EU Buries Highly Critical Report on Turkey's Free Speech Record

Also consider EU sidelines Critical Report as it Seeks Migration Deal.

Brussels has privately signalled that it will shunt publication of a highly critical report on Turkey's free speech record until after its election in November, as the EU scrambles to keep Ankara on-board with a plan to stem migration.

One EU ambassador quipped that it had been delayed "at the whim of the Sultan" — Mr Erdogan. "This is not healthy," he said.

A visit to Turkey by Angela Merkel tomorrow will highlight Europe's desire to engage Mr Erdogan on migration, even amid a fraught election campaign that has seen increasing intimidation of media.

Ms Merkel asked that her visit be to Istanbul rather than Ankara, in part to avoid an awkward photo op with Mr Erdogan at his 1,100-room presidential palace. It is yet to be decided whether the two leaders will hold a joint press conference.

Bargaining With the Devil

Bribes and blind eyes cannot fix problems caused by absurd policies. The refugee problem is simple: There is an unlimited demand for free food, free shelter, and free services.

If Turkey does not deserve easing of EU restrictions, then sweetheart deals easing them can only cause additional problems.

Mike "Mish" Shedlock

Industrial Production Declines Again, Down Eighth Time in Nine Months

Posted: 16 Oct 2015 10:01 AM PDT

Industrial production declined for the eighth time in nine month, by 0.2%, pretty much in line with Econoday Consensus estimates.

Industrial production continues to sink, down 0.2 percent in September which is slightly better than the Econoday consensus for minus 0.3 percent. The manufacturing component continues to sink, down 0.1 percent for a second straight decline and the fourth decline in five months. Industrial production was revised sharply upward for August, from an initial decline of minus 0.4 percent to only minus 0.1 percent. But the improvement is due to sharp upward revisions to the utility and mining components, less so for manufacturing where the revised decrease now stands at minus 0.4 percent for only a 1 tenth improvement from the initial reading.

Motor vehicle production, which swung up and down through the summer, settled in with a 0.2 percent gain for September. Looking at the long-term trend, vehicle production is at the top of the report with a year-on-year gain of 9.4 percent in strength underscoring that demand right now is domestically based. Business equipment production, which is closely tied to exports, slipped 1 tenth in September for a year-on-year increase of only 1.8 percent. Consumer goods, which are centered for the domestic market, gained 0.2 percent for a year-on-year rate of plus 2.6 percent.

Overall capacity utilization slipped 3 tenths to 77.5 percent with manufacturing utilization down 2 tenths to 75.9 percent. Note that excess capacity in the manufacturing sector is a factor that is holding down the costs of goods.

Turning quickly to the other components, utility production, driven by September's unseasonable cooling needs, jumped 1.3 percent and also now 1.3 percent in August as well, up from an initial reading of plus 0.6 percent. Mining production, which has been pulled lower by commodity prices, fell 2.0 percent in the month with year-on-year contraction standing at minus 5.7 percent. Mining production in August is now revised to unchanged from an initial decline of minus 0.6 percent.

Industrial Production Index

Bloomberg notes "The industrial sector accounts for less than 20 percent of GDP. Yet, it creates much of the cyclical variability in the economy."

With the exception of July, industrial production has been weak since late last year.

Mike "Mish" Shedlock

Can the Fed Really Print Money? What Would Negative Interest Rates Do?

Posted: 16 Oct 2015 01:58 AM PDT

Most people believe the Fed can print money. Caught on tape, former Fed chair Ben Bernanke once admitted the Fed prints money.

However, in Hoisington's Third Quarter 2015 Review, economist Lacy Hunt makes the claim the Fed cannot print money. Let's take a look, emphasis mine.

Despite the unprecedented increase in the Federal Reserve's balance sheet, growth in M2 over the first nine months of this year fell below its average rate of growth over the past 115 years, a time when the growth in the monetary base was stable and quite modest.

In addition, velocity of money, which is an equal partner to money in determining nominal GDP, has moved even further outside the Fed's control. The drop in velocity to a six decade low is consistent with a misallocation of capital and an increase in debt used for either unproductive or counterproductive purposes.

The evidence speaks for itself: the Fed cannot print money. The Fed does not have the authority or the mechanism to print money. They have not, they are not and they will not print money under present laws.

The Fed, of course, has the authority to buy certain assets, including government bonds, in the open market, but that is where their authority starts and stops. They create excess reserves by buying securities in the open market, which are then owned by the depository institutions. However, the Fed does not have the direct capability to move these funds and therefore place them in the hands of households, businesses, and other nonbank sectors. It is this transaction that creates money. Keeping short-term interest rates low for an extended period of time will not change the trajectory of the economic growth path as long as the massive debt overhang persists.

Ben Bernanke Says the Fed Prints Money

In Ben Bernanke's first infomercial on 60 Minutes in March of 2009, interviewer Pelley asked Bernanke point blank: "You've been printing money?"

Bernanke replied "Well, effectively. And we need to do that, because our economy is very weak and inflation is very low. when the economy begins to recover, that will be the time that we need to unwind those programs, raise interest rates, reduce the money supply, and make sure that we have a recovery that does not involve inflation."

Ben Bernanke Denies the Fed Prints Money

In a second 60 Minutes Fed infomercial in December of 2010 Bernanke made this claim: "One myth that's out there is that what we're doing is printing money. We're not printing money. The amount of currency in circulation is not changing."

This admission, and denial, is one of the funniest things the Daily Show covered. Please play the following video for a big laugh.

I covered the Daily Show video in my post Caught in a Massive Lie: Daily Show Comments on Bernanke's Lies Regarding "Printing Money".

So which is it? Is the Fed printing money?

The answer depends on the definition. In the first 60 Minutes interview Bernanke stated the Fed is "effectively" printing money.

In the second interview Bernanke stated "We're not printing money. The amount of currency in circulation is not changing."

Lacy Hunt has argued along the lines of Bernanke's second viewpoint.

I once gave this analogy in a presentation: Imagine you have a machine that prints perfect $100 counterfeit bills. The bills are so perfect, not even the treasury department can tell the real bill from the fraudulent bill. Next, imagine that you print $10 trillion of them and bury them in your back yard.

What happens? The obvious answer is nothing at all happens.

In one sense, that is what the Fed did. The Fed printed money and it sits as excess reserves. However, unlike printing money and burying it in your back yard, the Fed did ignite speculative asset bubbles.

I have phrased the Fed's role this way on numerous occasions: "The Fed can print money but it cannot dictate where the money goes, or if the money goes anywhere at all. Moreover, the Fed cannot give money away, and would not do so even if it could."

To borrow Bernanke's word, I believe Lacy and I are "effectively" saying the same thing or at least similar things. The difference between Bernanke's counterfeiting and me printing $1 trillion and burying it in my backyard is the latter is totally benign. Boosting asset prices and creating bubbles as Bernanke has done, is not benign.

Here is the key idea: The Fed can provide liquidity support, but not capital. It cannot and will not give money away. The notion of a "helicopter drop" is fallacious.

Negative Interest Rates

Many economic illiterates have come out in favor of negative interest rates. I don't believe that would stimulate the real economy at all. Nor does Lacy Hunt. He offers this line of thought:

The Fed could achieve negative rates quickly. Currently the Fed is paying the depository institutions 25 basis points for the $2.5 trillion in excess reserves they are holding. The Fed could quit paying this interest and instead charge the banks a safekeeping fee of 25 basis points or some other amount. This would force yields on other short-term rates downward as the banks, businesses and households try to avoid paying for the privilege of holding short-term assets.

Many negatives would outweigh any initially positive psychological response. Currency in circulation would rise sharply in this situation, which would depress money growth. The Fed may try to offset such currency drains, but this would only be achievable by further expanding the Fed's already massive balance sheet. If financial markets considered such a policy inflationary over the short-term, the more critically sensitive long-term yields could rise and therefore dampen economic growth.

An extended period of negative interest rates would lead to many adverse unintended consequences just as with QE and ZIRP. The initial and knockoff effects of negative interest rates would impair bank earnings. Income to households and small businesses that hold the vast majority of their assets with these institutions would also be reduced. As time passed a substantial disintermediation of funds from the depository institutions and the money market mutual funds into currency would arise. The insurance companies would also be severely challenged, although not as quickly. Liabilities of pension funds would soar, causing them to be vastly underfunded. The implications on corporate capital expenditures and employment can simply not be calculated. The negative interest might also boost speculation and reallocation of funds into risk assets, resulting in a further misallocation of capital during a time of greatly increased corporate balance sheet and income statement deterioration.

Key Points

It's important to not get hung up over the word "printing". The key point is what the Fed can and cannot do.

The Fed can stimulate bubbles by holding rates low
The Fed can provide liquidity
The Fed cannot simultaneously set interest rates and the supply of money
The Fed cannot give money away
The Fed cannot dictate where money goes
The Fed can encourage but cannot force businesses or households to borrow

Debt is the problem. Yet, the Fed hopes to boost the economy by stimulating demand for more debt.

That strategy cannot possibly work as Japan has proven for decades.

Mike "Mish" Shedlock

Economy News

16.10.15

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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