Trump’s budget policy: Mortgaging the future?

By Christophe Blot

While the momentum for growth has lost steam in some countries – Germany, France and Japan in particular – GDP in the United States is continuing to rise at a steady pace. Growth could even pick up pace in the course of the year as a highly expansionary fiscal policy is implemented. In 2018 and 2019, the fiscal stimulus approved by the Trump administration – in December 2017 for the revenue component, and in February 2018 for the expenditure side – would amount to 2.9 GDP points. This level of fiscal impulse would come close to that implemented by Obama for 2008. However, Trump’s choice has been made in a very different context, since the unemployment rate in the United States fell back below the 4% mark in April 2018, whereas it was accelerating 10 years ago, peaking at 9.9% in 2009. The US economy should benefit from the stimulus, but at the cost of accumulating additional debt. Continue reading “Trump’s budget policy: Mortgaging the future?”

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Missing deflation – unique to America?

By Paul Hubert, Mathilde Le Moigne

Was the way inflation unfolded after the 2007-2009 crisis atypical? According to Paul Krugman: “If inflation [note: in the United States] had responded to the Great Recession and aftermath in the same way it did in previous big slumps, we would be deep in deflation by now; we aren’t.” Indeed, after 2009, inflation in the United States remained surprisingly stable given actual economic developments. Has this phenomenon, which has been described as “missing deflation”, been observed in the euro zone? Continue reading “Missing deflation – unique to America?”

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The Janus-Faced Nature of Debt

by Mattia Guerini, Alessio Moneta, Mauro Napoletano, Andrea Roventini

The financial and economic crises of 2008 have been intimately interwined with the dynamics of debt. As a matter of fact, a research by Ng and Wright (2013) reports that in the last thirty years all the U.S. recessions had financial origins. Continue reading “The Janus-Faced Nature of Debt”

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Do QE programmes create bubbles?

By Christophe Blot, Paul Hubert and Fabien Labondance

Has the implementation of unconventional monetary policies since 2008 by the central banks created new bubbles that are now threatening financial stability and global growth? This is a question that comes up regularly (see here, here,  here or here). As Roger Farmer shows, it is clear that there is a strong correlation between the purchase of securities by the Federal Reserve – the US central bank – and the stock market index (S&P 500) in the United States (Figure 1). While the argument may sound convincing at first glance, the facts still need to be discussed and clarified. First, it is useful to remember that correlation is not causation. Secondly, an increase in asset prices is precisely a transmission channel for conventional monetary policy and quantitative easing (QE). Finally, an increase in asset prices cannot be treated as a bubble: developments related to fundamentals need to be distinguished from purely speculative changes.

Higher asset prices is a factor in the transmission of monetary policy

If the ultimate goal of central banks is macroeconomic stability [1], the transmission of their decisions to the target variables (inflation and growth) takes place through various channels, some of which are explicitly based on changes in asset prices. Thus, the effects expected from QE are supposed to be transmitted in particular by so-called portfolio effects. By buying securities on the markets, the central bank encourages investors to reallocate their securities portfolio to other assets. The objective is to ease broader financing conditions for all economic agents, not just those whose securities are targeted by the QE programme. In doing this, the central bank’s actions push asset prices up. It is therefore not surprising to see a rise in equity prices in connection with QE in the US.

Every increase in asset prices is not a bubble

Furthermore, it is necessary to make sure that the correlation between asset purchases and their prices is not just a statistical artefact. The increase observed in prices may also reflect favourable fundamentals and be due to improved growth prospects in the United States. The standard model for determining the price of a financial asset identifies its price as equal to the present value of anticipated income flows (dividends). Although this model is based on numerous generally restrictive assumptions, it nevertheless identifies a first candidate, changes in dividends, to explain changes in stock prices in the United States since 2008.

Figure 1 shows a clear correlation between the series of dividends [2] paid and the S&P 500 index between April 2010 and October 2013. Part of the rise in equity prices can be explained simply by the increase in dividends: the usual determinant of stock market prices. Looking at this indicator, only the period starting at the beginning of 2014 could then indicate a disconnect between dividends and share prices, and thus possibly point to an over-adjustment.


A correlation that isn’t found in the euro zone

If the theory that unconventional monetary policies create bubbles is true, then it should also be observed in the euro zone. Yet performing the same graph as the one for the United States does not reveal a link between the liquidity provided by the European Central Bank (ECB) and the Eurostoxx index (Figure 2). The first phase in the increase in the size of the ECB’s balance sheet, via its refinancing operations starting in September 2008, came at a time when stock markets were collapsing, following the bankruptcy of Lehman Brothers. Likewise, the very long-term refinancing operations carried out by the ECB at the end of 2011 do not seem to be correlated with the stock market index. The rise in share prices coincides in fact with Mario Draghi’s statement in July 2012 that put a halt to concerns about a possible breakup of the euro zone. It is of course possible to argue that the central bank has played a role, but any link between liquidity and asset prices is simply not there. At the end of 2012, the banks paid back their loans to the ECB, which reduced the cash in circulation. Finally, the recent period is once again illustrating the fragility of the argument that QE creates bubbles. It is precisely at a time when the ECB is undertaking a programme of large-scale purchases of securities, along the lines of the Federal Reserve, that we are seeing a fall in world stock indices, in particular the Eurostoxx.


So does this mean that there is no QE-bubble link?

Not necessarily. But to answer this question, it is necessary first to identify precisely the portion of the increase that is due to fundamentals (dividends and companies’ share prospects). A bubble is usually defined as the difference between the observed price and a so-called fundamental value. In a forthcoming working paper, we endeavour to identify periods of over- or undervaluation of a number of asset prices for both the euro zone and the United States. Our approach involves estimating different models of asset prices and thereby to extract a component that is unexplained by fundamentals, which is then called a “bubble”. We then show that for the euro zone, the ECB’s monetary policy broadly speaking (conventional and unconventional) does not seem to have a significant effect on the “bubble” component (unexplained by fundamentals) of asset prices. The results are stronger for the United States, suggesting that QE might have a significant effect on the “bubble” component of some asset prices there.

This conclusion does not mean that the central banks and the regulators are impotent and ignorant in the face of this risk. Rather than trying to dissect every movement in asset prices, the central banks should focus their attention on financial vulnerabilities and on the ability of agents (financial and non-financial) to absorb sharp fluctuations in asset prices. The best prevention against financial crises thus consists of continuously monitoring the risks being taken by agents rather than trying to limit variations in asset prices.

[1] We prefer a broad definition of the end objective that takes into account the diversity of institutionalized formulations of the objectives of central banks. While the mandate of the ECB is primarily focused on price stability, the US Federal Reserve has a dual mandate.

[2] The series of dividends paid shows strong seasonality, so this has been smoothed by a moving average over 12 months.

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Investment behaviour during the crisis: a comparative analysis of the main advanced economies

By Bruno DucoudréMathieu Plane and Sébastien Villemot

This text draws on the special study, Équations d’investissement : une comparaison internationale dans la crise [Investment equations : an international comparison during the crisis], which accompanies the 2015-2016 Forecast for the euro zone and the rest of the world.

The collapse in growth following the subprime crisis in late 2008 resulted in a decline in corporate investment, the largest since World War II in the advanced economies. The stimulus packages and accommodative monetary policies implemented in 2009-2010 nevertheless managed to halt the collapse in demand, and corporate investment rebounded significantly in every country up to the end of 2011. But since 2011 investment has followed varied trajectories in the different countries, as can be seen in the differences between, on the one hand, the United States and the United Kingdom, and on the other the euro zone countries, Italy and Spain in particular. At end 2014, business investment was still 27% below its pre-crisis peak in Italy, 23% down in Spain, 7% in France and 3% in Germany. In the US and the UK, business investment was 7% and 5% higher than the pre-crisis peaks (Figure). Continue reading “Investment behaviour during the crisis: a comparative analysis of the main advanced economies”

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The coming recovery

By the Analysis and Forecasting Department, under the direction of Eric Heyer and Xavier Timbeau

This text summarises the OFCE 2015-2016 economic outlook for the euro zone and the rest of the world

While up to now the euro zone had not been part of the global recovery, the conjunction of a number of favourable factors (the fall in oil prices and depreciation of the euro) will unleash a more sustained process of growth that is shared by all the EU countries. These developments are occurring at a time when the massive and synchronised fiscal austerity that had pushed the euro zone back into recession in 2011 is easing. The brakes on growth are gradually being lifted, with the result that in 2015 and 2016 GDP should rise by 1.6% and 2%, respectively, which will reduce unemployment by half a point per year. This time the euro zone will be on the road to recovery. However, with an unemployment rate of 10.5% at the end of 2016, the social situation will remain precarious and the threat of deflation is not going away. Continue reading “The coming recovery”

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Who has the best playing field for tax competition: the United States or the European Union?

By Sarah Guillou

Two recent events demonstrate the differences in the American and European views on tax competition. First was the case of Boeing, which the European Union (EU) has brought before the World Trade Organization (WTO). The EU is challenging the tax incentives offered by the State of Washington to the American aircraft maker. Then there is the European Commission’s investigation of Luxembourg’s tax provisions that benefit Amazon, the Internet retailer. Boeing and Amazon both make massive use of tax competition. While this is widespread and accepted in the United States, it is being increasingly questioned in the EU, and even excluded by law if it is classified as illegal State aid. Continue reading “Who has the best playing field for tax competition: the United States or the European Union?”

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Working in the United States: longer, harder, and …. on weekends!

By Elena Stancanelli, Paris School of Economics, CNRS and Research Associate at the OFCE[1]

Americans now work longer hours than Europeans. Daniel Hamermesh and Elena Stancanelli show in “Long Workweeks and Strange Hours” that the lengthening of the workweek in the United States has gone hand in hand with more work at night and on weekends.

The authors’ results are based on mining a unique set of data, the American Time Use Survey and a panel of European individuals that accurately measures employee working time (weekly, week-ends, at night) as well as a range of other activities (leisure, child care, domestic work, rest periods, etc.) using daily time diaries [2]. The individuals are interviewed about the entire day (24 hours) using ten-minute slots (144 ten-minute slots are filled in for each individual). These data are collected by the national statistical institutes for representative samples of the population, on an annual basis in the United States but much less frequently in Europe. For example, in France, the Emploi du temps(EDT) survey is collected by the INSEE statistics institute once every twelve years.[3] Continue reading “Working in the United States: longer, harder, and …. on weekends!”

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What’s masked by the fall in US unemployment rates

By Christine Rifflart

Despite the further decline in the US unemployment rate in December, data from the Bureau of Labor Statistics released last week confirms paradoxically that the American labour market is in poor health. The US unemployment rate fell by 0.3 percentage point from November (-1.2 points from December 2012) to end the year at 6.7%. The rate has fallen 3.3 percentage points from a record high in October 2009, and is coming closer and closer to the non-accelerating inflation rate of unemployment (NAIRU), which since 2010 has been set by the OECD at 6.1%. However, these results do not at all reflect a rebound in employment, but instead mask a further deterioration in the economic situation. Continue reading “What’s masked by the fall in US unemployment rates”

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No surprises from the Fed*

By Christine Rifflart

Not surprisingly, at its meeting on 29 and 30 October the Monetary Policy Committee of the US Federal Reserve decided to maintain its unconventional measures and to leave the federal funds rate unchanged. Since the end of 2012, the Fed has been making massive purchases of securities (government bonds and mortgage debt) at a rate of $85 billion per month. The aim is to put pressure on long-term rates and to support economic activity, including the real estate market. Continue reading “No surprises from the Fed*”

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