Author Archives: fanglue

American Middle Class – No Longer the World’s Richest

The American middle class which has long been recognized as the most affluent in the world, now lose that distinction. According to New York Times, citizens of other developed countries have received considerably larger raises over the last three decades. Figures shows that after-tax middle-class incomes in Canada now appear to be higher than in the United States; in addition, the poor in much of Europe earn more than poor Americans.

The findings have been tricky because most commonly cited economic statistic, such as per capita gross domestic product, continue to show that the United States has maintained its lead as the world’s richest large country. However, those numbers reflect only the average level. We may need to know more about the variance in order to capture a whole picture of the income distribution. The recent data shows that a large share of wealth flow into the high-earning households, leading to a broader variance of the rich and the poor.

Many commented that the tax system in the United States was cutting the middle-class and that the tax relief for middle-class and small businesses show that the US government has realized this. It would be interesting to see whether the tax relief will actually be effective.

Why is there a weak income performance in the United States? Firstly, the educational attainment in the United States has risen far more slowly than in much of the industrialized world over the last three decades, making it harder for the American economy to maintain its share of highly skilled, well-paying jobs. In the Labor Economics class, we learnt that there is a positive relation between education and earnings. More educated people tend to earn more on average compare to those with less education. Therefore, if people in the United States do not get as much as education attainment as other industrialized countries, it is very likely that the average earning in middle class also fall behind them.

A second reason is that companies in the United States economy distribute a smaller share of their bounty to the middle class and poor than similar companies elsewhere. Also, as taught in Labor Economics class, top executives make substantially more money in the United States than in other wealthier countries. This also explain why the income gap is quite large in the United States because the spread is increasingly larger once reaching a certain level in the hierarchy.

The last reason is that governments in Canada and Western Europe take more aggressive steps to raise the take-home pay of low-and-middle-income households by redistributing income. It would be necessary for the United States to think over the benefits of the take-home pay because many commented that the tax system has been cutting the middle class domestically.

(Revised) How to Deal with the Decline in China’s Car Demand

China used to be considered as a big market for many kinds of products. However, as China’s economy slows recently, its role as the biggest growth engine for the global car business depends on auto makers getting reluctant customers behind the wheel, as written in Wall Street Journal.

The automotive industry in China is quite unique as the joint ventures with foreign car makers play a very important role. Of the automobiles produced, 44.3% were local brands (including BYD, Dongfeng Motor, FAW Group, SAIC Motor, Lifan, Chang’an, Geely, Chery, Hafei, Jianghuai, Great Wall and Roewe), and the rest were produced by joint ventures with foreign car makers such as Volkswagen, General Motors, Hyundai, Nissan, Honda, Toyota, Mitsubishi etc. Most of the cars manufactured in China sold within China. Foreign automotive companies cannot sell the cars directly to China’s market, instead, they have to become joint ventures with Chinese local car makers in order to have the right to produce and sell within China. 

Why is there a sales decline in China’s automotive industry given that China has just become the world’s biggest automobile market in 2013?

  • Slowing-down economic growth. The deflation policy slows down the economic development in China. Chinese consumers’ interest in cars had shown signs of cooling along with broader economic growth.
  • Auto Sales Control. A growing number of Chinese cities are controlling auto sales to fight against traffic congestion and pollution. To combat air pollution, China’s State Council, or cabinet, released a national plan in September that called for a 15 percent to 25 percent reduction in particulate matter by 2017 in the three key manufacturing regions anchored by Beijing, Shanghai and Guangzhou.
  • Anti-corruption campaign. The demand for imported luxury vehicles will decline as the official frugality campaign spreads beyond the government and affect companies and individual consumers.

Nevertheless, we can still find ways out for the automotive companies:

  • Young people should be the targeting consumers. Given that many of the young are paid relatively well compared to the old generation, they may today borrow to finance their housing or cars instead of saving until they have enough money to enjoy.  Moreover, the good news for most of the automotive companies is that – Chinese people love brand new cars. Most of the Chinese prefer brand new cars to the second-hand because they may think it uncomfortable to use something that may have been owned by others.
  • Inland cities would be promising markets. Since most of the big cities, as well as the rich costal cities, are already overwhelmed by too many cars, their local government may implement the “controlling” policy sooner or later so that the demand for cars is limited. Most of the inland cities are quite well-developed in recent years. Many well-paid job opportunities are created in these cities creating many relatively high-income people. Hence, the inland cities will be a promising market for the automotive industry in the near future.

Why Did Seafood Consumption Decline

As people start to improve their diets, they gradually develop a favor to the healthiest foods – fish. However, the recent data showed that the consumption of seafood is declining. Therefore, the seafood industry is now trying to cope with a decline in fish consumption in the U.S.

As stated in Wall Street Journal,

[the average U.S. consumer ate 14.4 pounds of seafood in 2012, the last year for which figures are available, down from 15 pounds of seafood in 2012, the last year for which figures are available, down from 15 pounds in 2011 and a record high 16.6 pounds consumed in 2004. That’s far less than the average 82 pounds of chicken, 57 pounds of beef and 46 pounds of pork that Americans consume in a year. It’s also much less than the amount of seafood eaten in other countries. The average Japanese consumer eats 120 pounds a year, while Spaniards consume 96 pounds. ]

In order to deal with the decreasing demand for seafood, we should first figure out why are people eating less fish. Firstly, in my understandings, it is because of the eating habits. The United States, unlike Japan where most of its land is surrounded by waters forming a eating habit in favor of seafood, has been well-developed in animal husbandry as well as farming. Moreover, surveys show that currently Americans are not sure how to cook fish leading the households demand for fish to decrease.

Secondly, I believe that the demand for seafoods is more elastic than that of other kinds of protein. In American culture, beef is an important part in eating habits that the consumption of beef has always been high.  The recent data shows that the price of seafoods is increasing because most of the seafoods are imported. Consumers strongly prefer beef to seafood/fish, therefore once the price of seafood increases, consumers will immediately shift to buy beef instead, that is, the demand for seafood in the United States is so price-sensitive/elastic that seafoods are easily substituted by other kinds of protein.

The recent trend of the seafoods price is that it shows signs of decreasing. According to the simple demand and supply model, the decreasing demand for seafoods would drive down the price and therefore seafoods may be more affordable in the near future.

The good news is that the seafood industry now pays more attention in its promotion. According to another post on Wall Street Journal, companies now are trying to get kids hooked on fish sticks. The frozen-fish industry is targeting in school meals which has a high quality standard for foods. The companies claimed that they wanted to introduce seafood to kids early and have them love it so that they would eat it later their whole lives. If this continues, in the near future, we can expect an increase in fish demand when these kids grow up. In addition, if the next generation loves fish, the eating habits of Americans may change – demand for fish/seafood would somehow be less elastic.

Hard Time for Long-term Unemployed People

According to Market Watch, almost five years after the end of the Great Recession, some 3.8 million Americans have been out of work at least six months and their prospect of finding a good job remains dim. When restoring the economy to normal, U.S. leaders find it hard to deal with the long-term unemployment problems even though the ranks of the long-term jobless have thinned dramatically after peaking in 2010, more Americans today have gone without a job for a long period than any other time since 1930s.

The current situation is that companies are very picky or choosy about who they hire and they often give short-shrift to those who’ve been out of work a long time. Therefore many Americans may still feel like a recession because it is still hard to get a job. The best hope for those struggling to find work is stronger U.S. growth that drags the unemployment rate down and forces companies to hire more workers. According to an academic study, job applicants who have been unemployed for six months or above get 45% fewer callbacks than people out of work for just a month.

Why is it hard for long-term unemployed people to find a job? Firstly, I believe that their skills diminish the longer they are out of work. This often happened in labor-intensive industry where workers get trained in using the machine or resembling spare parts. During their absence, the machine or spare parts may have been changed due to the technology improvement and therefore it is hard for them to get on to their position again. They lack training for jobs in other lines of work that are growing faster.

Secondly, I agree with the article that the biggest obstacle by far has been a weak recovery. As Federal Reserve Chairwoman Janet Yellen once said, “the recovery is still slow.” The economy has only grown by an annual average of 2.25% since 2010 — well below the historic 3.3% pace of U.S. growth since 1929. In my understandings, the slow recovery would have less job openings compared to the normal rate of economy recovery and therefore less demand for labor. The demand for labor is in line with the business cycle — when the economy is expanding, it needs more labor to further support its growth; when the economy is shrinking, it cuts labor because they want less costs of inputs including labor costs.

However, businesses don’t lay off their best employees off first. Instead, they try to hold onto them. In order to keep the current position or further move forward in their career path, one should always keep learning so as to keep up with the changes over time.

Increase in PPI Causing Inflation?

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The producer-price index (PPI) for final demand, which measures changes in the prices businesses receive for their goods and services, rose a seasonally adjusted 0.5% from February, as we can see from the above FRED graph. According to Wall Street Journal, it rose 0.6% excluding the volatile categories of food and energy.

Since PPI indicates an overall rise in the prices business receive from buyers such as governments, consumers and other businesses for a wide array of goods services, we would expect an increase in inputs leading a rise in price for the final consumption goods. The U.S. has experienced a prolonged period of sluggish price increases, with inflation undershooting the Fed’s 2% target for 22 consecutive months. The CPI was up 1.1% in February from a year ago and rose 1.6% excluding the volatile categories of food and energy. The PCE index was up 0.9% in February from a year earlier and rose 1.1% excluding food and energy.

In my understandings, I believe that businesses would open their eyes to cheap inputs from foreign markets so as to guarantee their profit margin. The demand for imported inputs will increase resulting in rise of prices in imported goods, according to ECON 101 demand and supply model. The latest report from Labor Department said that prices for imported goods increased 0.6% in March from a month earlier, on top of February’s 0.9% increase. Import prices last month were still down 0.6% from a year ago.

China would be a big market for cheap imports again, as I once wrote in my early post. The policy of devaluating Chinese Yuan not only slows down China’s GDP growth but also makes Chinese goods cheaper to be imported for other countries. This policy has effectively increased foreign demand for Chinese goods and services and stimulated exports to a new higher level. Given that the domestic inputs prices increase. the US would shift to foreign markets, where China is a demanding one.

However, inflation would pose a lot of risks to economic performance therefore the policy makers are now trying to control it. Looking back to CPI, if businesses have already found ways to reduce their costs of inputs, the inflation may not be serious as we thought. The good news is that Overall prices for goods were flat in March. Food prices rose a seasonally adjusted 1.1% from February while energy prices sank 1.2%. Therefore we still cannot tell whether the increase in inputs of businesses will eventually lead to an increase in inflation.

 

Mortgage Originations Fell to 14-Year Lowest Level

 

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The Mortgage Bankers Association, meanwhile, reported on Wednesday that the share of mortgage applications for refinances hit their lowest level since July 2009 last week. Refinances have been a major source of revenue for banks with every successive round of Federal Reserve stimulus over the past six years. 

What are the causes and effects? According to the news on Wall Street Journal, the decline in mortgage originations was caused by the months-long plunge in refinancing activity and weak demand for loans to purchase new homes. However, a drop in refinancing is not a major threat to the housing market. Neither did the weak loan demand for home purchases hurt the market because the demand remains strong from investors paying cash.

The drop in lending demand makes the lenders more anxious. Firstly, lenders therefore facing a more competitive environment but they should also focus more heavily on loans to buy homes, which are more time intensive than loans to refinance. The purchase-loan business tends to reply more heavily on cultivating strong relationships with home-builders or real-estate agents. However, as I wrote in my post last week, the construction of both commercial centers and homes are shrinking dramatically these years, which make it harder for lenders (banks) to absorb new borrowers. Secondly, the drop in refinancing could pose a major threat to lenders that loan officers will burn through the universe of borrowers who can be encouraged to reduce their rate by refinancing – the refinance boom of 2012 and 2013 ended more abruptly than many anticipated.

Refinancing is very sensitive to the direction of interest rates changes. As we learnt in class, refinances (borrowings) rise as interest rates fall; and they decrease when rates rise or stay the same. Once the interest rates fluctuate, the problem would become complicated. The rise in interest rates could encourage more savings as well as foreign investments, while the fall in interest rates would make people spend more which is useful in economy stimulus. The US has been lowering its interest rates down close to zero for economy recovery. Therefore, in order to avoid too much changes in interest rates, mortgage rates hovered around the 4.6% by late June. Historical figure shows that refinancing could fall much lower if rates climb back above 5%.

Mortgages, or lending is very important to the economy as a whole. Lenders should bare the risk while earning the interests from the borrowers. Refinancers or home buyers can obtain money to work on new projects or invest in the housing markets. Mortgages may become a double-edged sword if not correctly implemented. Recall that the growth of the subprime market from 2004 to 2006, where lenders relaxed lending standards and convinced that raising home prices would bail out borrowers that got into trouble, leading many defaults in payments.

 

European Central Bank: Further Easing Needed

The European Central Bank announced that it will open to further easing in order to stimulate the economy. Euro weakens after central bank officials discussed possibility of asset purchases. At the same time, the rest of the world, for example the U.S. and China, are winding down their growth rate. According to Wall Street Journal, President Mario Draghi‘s revelation that the central bank had discussed negative interest rates and large-scale bond purchases — if needed to keep persistently low inflation from undermining growth — caught financial markets by surprise.

[Mr. Draghi said officials had discussed asset purchases, known as quantitative easing, as well as setting a negative rate on bank deposits parked at the ECB—moves that could help bolster the economic recovery and push up prices. The annual inflation rate in the euro zone is just 0.5%, far below the bank’s target of just under 2%.]

At the beginning of this semester, we learnt that the negative interest rates will encourage people to spend more which leads to an increase in aggregate demand; however, this may discourage you from saving your money – the more you save the more you would lose. Theoretically, people have less incentive to save and therefore banks have no reserves for lending loans.

A negative interest rate (though it is currently zero) would also force financial institutions to pay to park their excess funds at the ECB, leading them to lend more to the private sectors. However, in my opinion, quantitative easing is more complicated in the euro zone than in the U.S., where the Federal Reserve has deployed the policy and continues to do so. This is because on the one hand, like states in the US, countries in Eurozone have no exchange-rate tool, no separate monetary policies; however, on the other hand, unlike US states, labor is less mobile across countries and wages are less flexible due to social policies, and there is no mechanism for fiscal transfers among countries. The U.S. borrows more from the capital markets and therefore could filter quickly to its economy.

The good news is that euro zone has a low inflation rate. The long-term interest rates therefore remain quite fixed which provides a relatively stable environment for households and business to spend and invest. However, if the interest rates are too low, countries may face some risks, for example, Japan has struggled with deflation for two decades. In order to control the risk, both ECB and Fed aim to keep inflation rate at around 2%.

 

 

 

US Trade Gap Widening

It has been a long-term goal for the U.S. to increase its exports in order to stimulate economy. However, according to Wall Street Journal, U.S. exports fell in February amid weak overseas demand, the latest force restraining the U.S. economy in the first quarter. OG-AB099_ECONOM_G_20140403112604

As we can see from the above graph, while U.S. imports grew, its exports has decreased, leading the trade gap to increase up to 7.7% from January. It has been a long time that the U.S. is running a trade deficit for years. Remind from ECON 340 (International Economics), US current account deficit reached about $700 b. per year. From the national income accounting, a trade deficit implies that the national savings are less than the investments. If we are not saving enough to finance investment, how do we pay for it? Two ways: by borrowing from abroad or by selling assets. Therefore, the trade balance indicates whether we are living within our means or not. Only when the country (like a young person) is investing for the future (like a successfully developing country) will trade deficit be good to the country itself; otherwise it will go into debt just to finance current consumption, which happened right in the U.S..

Why is there a trade deficit in the U.S.? Partly it has been the US government who is running a deficit due to tax cuts, war, and stimulus. Another important reason is the falling private saving. Since mostly foreign governments and central banks are financing US debts, Warren Buffet claimed that the U.S. deficit is not sustainable as others will some day cease to be willing to lend to us.

The good news is that the U.S. economy showed signs of strengthening in March. Recent data showed auto sales surging to one of the strongest rates in years after weakening in January and February, while manufacturing activity strengthened. This is a good sign as the foreign demand for US goods showed a sign of potential increasing, which will bring an increase to US exports some time in the near future. In addition, in my understandings, US central bank should also come up with ways to encourage people’s private savings in order to deal with the trade deficit. Because right now the foreign financing is decreasing given that China is now slowing its economy and Europe risks may enter a period of deflation.

From the recent news, we can see that US recovery is taking hold though slow. Considered from the international economics, unless countries come together to take the right kind of policy measures, we could expect the trade gap problem to be improved.

 

(Revised) Increasing Demand in Rental Real-Estate Market

In the real estate industry, the recent trend indicates an increasing demand for rental housing, for example, the store rents and apartment rents. The recent posts on Wall Street Journal, Store Rents Rise as Construction Slows, Apartment Rents Climb as Vacancies Drop, concluded that the reason for the rental price going up is the increasing demand or even short of supply.

In the market of rental stores, the owners of shopping centers and malls raised rents for the 12th consecutive quarter. Given the low level of current commercial real-estate construction, it is good for retail landlords to get a boost from the slowly recovery of U.S. economy. Many midsize retailers are expanding their business as the demand for store space grows slowly.

Why would landlords be able to raise the rents under the slow economy recovery? Because the new construction is shrinking dramatically these years. Figures shows that the developers completed just 626,000 square feet of strip shopping centers in the first quarter of 2014, roughly one-fourth the level of construction from the previous quarter, and the lowest level since the beginning of 2011, according to Reis. Moreover, it is not surprising to realize the fall in the the new construction. Mall development was falling even before the recession, partly because of competition for anchor tenants from outdoor shopping centers and high costs to build malls. Fewer than one dozen enclosed malls were completed in the last 10 years. Now, the falling vacancy rates improve the bargaining power of landlords. However, as the online shopping gets prevailing, the demand for rental shopping mall may decrease because more companies will place more emphasis on building online shopping interfaces. We would predict a decline in demand for rental shops but the decline is relatively small compared to the recent large volume of demand.

As for the rental apartments, the apartment landlords continued to push through hefty rent increases at the start of the year, although the pace of the rises was slightly weaker. Similar to the commercial real-estate market, with the vacancy levels falling, rents appear poised for further growth. In addition, with employment rising slowly but steadily, more young people are forming households, usually by leaving their parents’ residences or breaking off from groups of roommates, as I wrote in my blog posts before. At the same time, the cost of buying a home has increased dramatically during the past year as prices have rebounded and interest rates have risen from record lows. This situation will also have an effect on increasing the demand for rental homes. However, the increase in the rental rates have not yet caused so much headache to the young people, who are the main customers, because young people have seem their job growth as the economy recovers.

 

The U.S. Economy and Job Market Far From Healthy

Ever since the financial crisis a couple years ago, the U.S. has always been working on economy recovery. How close is the U.S. economy to healthy condition? According to Wall Street Journal, Janet Yellen, Federal Reserve Chairwomen, the U.S. economy and job market are still far from healthy, and still require plenty of support from the central bank’s low-interest-rate policy.

Regarding the U.S. economy, it is still considerably short of the two goals assigned to the Federal Reserve by the Congress – low and stable inflation and maximum sustainable employment. In order to deal with the U.S. economy, the central bank has implemented the low-interest-rate policies which include the actions such as reducing the level of short-term interest rates to near zero, and reducing longer-term interest rates and thus provide further support for the U.S. economy. The Federal Reserve has purchased large quantities of longer-term Treasury securities and longer-term securities issued or guaranteed by government-sponsored agencies such as Fannie Mae or Freddie Mac. Low interest rates help households and businesses finance new spending and help support the prices of many other assets, such as stocks and houses. The Fed has kept official interest rates at effectively zero since December 2008, and has vowed to keep them there for a considerable while longer. The recent decisions by the Fed are to reduce the amount of bonds it buys a month. In this sense, I believe that we can expect the long-term rates to go down.

How is the current employment situation in the U.S.? First of all, statistics on job turnover pointed to considerable slack in the labor market.  Firms are still reluctant to increase the pace of hiring although it is now laying off fewer existing workers. On the employees’ side, they are less likely to quite their job voluntarily because they believe it hard to find another. Secondly, the wages are not increasing as the decline in unemployment. In my understandings, if the wages remain almost unchanged, the increase in price level will make it harder for people to make a living and thus decrease the domestic purchasing power as well as the domestic demand. Lastly, the labor force participation rate falls in a slack of job market when people who want a job give up trying to find a new one. If this continues, I am afraid that the lower participation could mean that current unemployment stated (6.7%) is overstating the progress in the labor market.