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Cleveland Fed Ridicules Krugman, Says Probability Of Recession Based On Yield Curve At Record Lows

Tyler Durden's picture




 

This latest bit of "economic" insight out of the Cleveland Fed is just too insidiously funny to be commented on. We present it au naturale, as in pot (Cleveland Fed), kettle (Krugman), and a whole lot of printer-ink stained fingers (Shalom). Figure 4 is, well, just all you need to know about the Ice Nine that is spreading within the gray matter of the people who determine monetary policy in the US. Lastly, is it too much to ask Messers Haurbich and Cherny what happens to their fancy analysis and gorgeously worthless charts if someone were to, gasp, consider that the entire yield curve is a massively flawed construct of the Fed's own $1.6 trillion in UST/MBS purchases creation. Then again, the frontal lobe explosions that would follow said question are likely not worth the aggravation of the incremental thought. We will gladly take our blue pills today and believe all the below nonsense spoonfed from above.

The Yield Curve, December 2009

Joseph G. Haubrich and Kent Cherny

Since last month, the yield curve has gotten a bit steeper, with
long rates moving up as short rates held steady. The difference between
these rates, the slope of the yield curve, has achieved some notoriety
as a simple forecaster of economic growth. The rule of thumb is that an
inverted yield curve (short rates above long rates) indicates a
recession in about a year, and yield curve inversions have preceded
each of the last seven recessions (as defined by the NBER). In
particular, the yield curve inverted in August 2006, a bit more than a
year before the current recession started in December, 2007. There have
been two notable false positives: an inversion in late 1966 and a very
flat curve in late 1998.

More generally, a flat curve indicates weak growth, and conversely,
a steep curve indicates strong growth. One measure of slope, the spread
between 10-year Treasury bonds and 3-month Treasury bills, bears out
this relation, particularly when real GDP growth is lagged a year to
line up growth with the spread that predicts it.

Since last month, the 3-month rate held constant at 0.04 percent
(for the week ending December 18). At that rate, 100 dollars invested
for a year would earn 4 cents. This is down from October’s already very
low 0.07 percent.

The 10-year rate increased to 3.56 percent, up from November’s 3.35
percent, and even above October’s 3.43 percent. The slope increased to
352 basis points, up from November's 331 basis points, and from
October’s 336 basis points. Projecting forward using past values of the
spread and GDP growth suggests that real GDP will grow at about a 1.62
percent rate over the next year. This is about equal to the 1.65
percent predicted last month. Although the time horizons do not match
exactly, this month’s estimate comes in somewhat below other forecasts.

While such an approach predicts when growth is above or below
average, it does not do so well in predicting the actual number,
especially in the case of recessions. Thus, it is sometimes preferable
to focus on using the yield curve to predict a discrete event: whether
or not the economy is in recession. Looking at that relationship, the
expected chance of the economy being in a recession next December is
5.5 percent, up a bit from November’s 4.7 percent, and from October’s
3.9 percent, but still, of course, very low.

The probability of recession coming out of the yield curve is low,
and this accords with many forecasts that suggest we have already come
out of recession—and remember that the forecast is for where the
economy will be in a year.

Of course, it might not be advisable to take these number quite so
literally, for two reasons. (Not even counting Paul Krugman’s concerns.)
First, this probability is itself subject to error, as is the case with
all statistical estimates. Second, other researchers have postulated
that the underlying determinants of the yield spread today are
materially different from the determinants that generated yield spreads
during prior decades. Differences could arise from changes in
international capital flows and inflation expectations, for example.
The bottom line is that yield curves contain important information for
business cycle analysis, but, like other indicators, should be
interpreted with caution.

For more detail on these and other issues related to using the yield curve to predict recessions, see the Commentary “Does the Yield Curve Signal Recession?

 

 

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Tue, 01/05/2010 - 18:12 | 183447 DaveyJones
Tue, 01/05/2010 - 20:06 | 183622 Cognitive Dissonance
Cognitive Dissonance's picture

"You must of made a wrong turn."

"We've got to go the other way. Other way." Classic spinal tap.

Tue, 01/05/2010 - 21:27 | 183722 Unscarred
Unscarred's picture

I think THIS is the video you are all looking for !!!

Tue, 01/05/2010 - 18:15 | 183456 Careless Whisper
Careless Whisper's picture

Krugman's article was just propaganda for Stimulus 2.0

Tue, 01/05/2010 - 18:30 | 183481 spekulatn
spekulatn's picture

+1

Tue, 01/05/2010 - 19:34 | 183571 Anonymous
Anonymous's picture

Along with Kneale, Krugman is another name that should be banned from this site. Ugh

Tue, 01/05/2010 - 22:44 | 183796 Unscarred
Unscarred's picture

+100

Wed, 01/06/2010 - 05:14 | 184058 Anonymous
Anonymous's picture

+2^2^2^2^2

(The Exponential Tower Stimulus will cure ALL ills of debt.)

Tue, 01/05/2010 - 18:16 | 183458 johngaltfla
johngaltfla's picture

So let's see if I have this right. A massive steepening of the yield curve with continued monetary expansion and fiscal stimulus beyond any belief is not a formula for cratering the domestic U.S. Economy even further while the "consumer" accelerates their deleveraging at a faster late and refuses to participate to any meaningful extent.

God I wish I could catch those skittles the Fed's Purple Unicorn poops while it flies over rainbows it just made and put them in a bong and smoke them like Ben and the boys do.

Tue, 01/05/2010 - 18:17 | 183460 Don Smith
Don Smith's picture

HAHAHAHA! Those crazy Fed Govs! What will they think of next? 

Tue, 01/05/2010 - 18:17 | 183462 Miles Kendig
Miles Kendig's picture

The attack of the Gerbervores continues unabated.

Tue, 01/05/2010 - 18:29 | 183478 ZerOhead
ZerOhead's picture

Haubrich and Cherny.

Dumb and Dumber.

These clowns used the same technology driving westward across the prairies using only their rear view mirror.

Worked pretty well actually until they reached the foothills...

Tue, 01/05/2010 - 18:30 | 183483 Zippyin Annapolis
Zippyin Annapolis's picture

Did somone cut the cheese? Ben, was that you?

Tue, 01/05/2010 - 18:31 | 183484 Harbourcity
Harbourcity's picture

First, this probability is itself subject to error, as is the case with all statistical estimates. Second, other researchers have postulated that the underlying determinants of the yield spread today are materially different from the determinants that generated yield spreads during prior decades. Differences could arise from changes in international capital flows and inflation expectations, for example.

This is my favorite paragraph.

 

Tue, 01/05/2010 - 18:34 | 183491 ghostfaceinvestah
ghostfaceinvestah's picture

Classic.  In other words, the yield curve could be a useless indicator because we are manipulating the shit out of it.

Hasn't Japan's yield curve been upward sloping for the past 18 years?

Tue, 01/05/2010 - 19:01 | 183526 Anonymous
Anonymous's picture

Uh, on Japan -- EXACTLY NO.

Current 10-yr JGB yield = 1.34%. 10-yr JGB have been below 2% since 2000 and actually hit 50 bps at all time lows. Those are 10-yr yields!

So, in Japan... Yield curve has been a good predictor.

Wed, 01/06/2010 - 09:35 | 184162 Anonymous
Anonymous's picture

Japan- exactly YES actually. Currently the 2 year yield is 0.15% compared to 1.33% for 10 year. This normalised curve has been in place since about 1992 (i.e. no inverted yield curve in 17 years). We know the Japanese GDP growth performance, so where's the signal, or alternatively, how relaible is the signal once your short rates are at or near zero (since 1995 in Japan's case).

I would be very circumspect of the predictive ability of a steep yield curve created by a policy rate close to zero.

Tue, 01/05/2010 - 19:06 | 183530 Green Sharts
Green Sharts's picture

If I had to summarize the current economic mess in one word it would be DEBT.  These guys don't even consider the unprecedented level of total debt to GDP as something that could make this time different than the last 7 recessions they consider and render their model useless.  And then when they think about what could be different this time they still don't consider it. Bernanke gave a long speech on Sunday without ever mentioning the word debt.  Steve Keen is right, the neoclassical economists are clueless: 

http://www.debtdeflation.com/blogs/2009/07/04/debtwatch-36-july-2009-its...

Almost every holder of a PhD in economics who works for a formal economic body like the Treasury, the RBA or the OECD has been deeply schooled in “neoclassical” economics, often without knowing that there is any other way of thinking about how the economy functions. They think they are simply “economists”, and anyone who objects to their analysis or models must be uneducated about economic theory.

In contrast, virtually all University Departments of Economics contain at least one economist who rejects neoclassical economics, and instead subscribes to a rival school–like Austrian, Marxian, Post Keynesian, or Evolutionary Economics.

These contrarian academic economists often disagree amongst themselves, sometimes vehemently–you couldn’t get two more opposed points of view than Austrian and Marxian economics, for example–but they tend to be united in regarding neoclassical economic theory as pompous drivel.

There are probably many reasons for this dichotomy between University economics departments which almost always have a handful of dissidents, and official economics bodies like the OECD and Treasury that are almost exclusively staffed by neoclassical economists. But I suspect the main reason is tenure: universities offer it, while formal economic advisory bodies don’t.

As a result, academic economists who “turn feral” and reject neoclassical economics can still teach and publish and hang on to their jobs, even if their neoclassical Department Heads wish they would go away. OECD and Treasury economists who do the same thing probably find their employment coming to an end–because they don’t have tenure.

Tue, 01/05/2010 - 19:37 | 183575 Anonymous
Anonymous's picture

I would argue that almost ALL economists don't get it or are completely disconnected. Fiat = Debt. As long as there is a central bank, there will be an ever growing bulge on the liabilities side while every debt ridden FRN you own loses value by the moment.

Tue, 01/05/2010 - 20:21 | 183635 phaesed
phaesed's picture

" would argue that almost ALL economists don't get it or are completely disconnected. Fiat = Debt."

 

So Rosie doesn't get it? Rothbard didn't get it? (well even I'd argue on that point, even though he was vastly more correct than neo-classicalists)

There is a new generation of economists who get it, blanket statements like that are just that - statements issued by a person with a blanket over their head.

Tue, 01/05/2010 - 20:32 | 183649 Anonymous
Anonymous's picture

Git yer lawyerin' hat on boy! The key word being "almost". As long as the majority of the shills keep pounding their drums they drown out those that DO understand.

Tue, 01/05/2010 - 22:33 | 183791 Carl Marks
Carl Marks's picture

Yeah, you right homie. These eggheads treat debt like money. Wait a minute. Debt is money and therein lies the problem. When debtors can't repay, creditors don't have jack.

Tue, 01/05/2010 - 18:33 | 183490 no cnbc cretin
no cnbc cretin's picture

Again, this chart is where we're at (in the deep hole):

http://www.shadowstats.com/alternate_data/gross-domestic-product-charts

Tue, 01/05/2010 - 18:39 | 183496 chumbawamba
chumbawamba's picture

Is it time yet again?

Oh what the fuck:

GOLD BITCHES!!!

I am Chumbawamba.

Tue, 01/05/2010 - 18:40 | 183497 Anonymous
Anonymous's picture

I'm not sure but I thought Martha Stewart did time for this...maybe I'm wrong?
Saleh to Return Gains From Insider Trading
WASHINGTON—Reza Saleh, the longtime friend and employee of H. Ross Perot whom regulators have accused of insider trading, has agreed to turn over all his illicit profits of more than $8.6 million, the Securities and Exchange Commission said on Tuesday.

In September, the SEC charged Mr. Saleh with insider trading in Dell Inc.'s buyout of Perot Systems Corp. The SEC alleged that Mr. Saleh had bought call options in Perot before the deal with Dell was announced.

The SEC obtained a court order at that time freezing all of Mr. Saleh's trading profits.

The terms of the settlement were filed on Tuesday in federal court in Dallas. The SEC is asking the court to appoint a third party to recommend a distribution plan for Mr. Saleh's illegal profits. The SEC also is seeking a financial penalty against Mr. Saleh.

Mr. Saleh didn't admit or deny the charges, but he has agreed to an SEC administrative order barring him from future association with any investment adviser, the SEC said.

Tue, 01/05/2010 - 20:18 | 183632 Cognitive Dissonance
Cognitive Dissonance's picture

Martha Stewart didn't go to jail for insider trading. She was jailed because she lied to investigators. If memory serves me correctly, the insider trading conviction was eventually overturned on a technicality.

This was why she turned herself in to the jail before her appeal was finished. She knew that regardless of the insider trading outcome, she could not overturn the lying conviction. They had her cold for lying under oath and she and her attorney knew it. She did a great job of PR spinning going to jail "early because she wants to do the right thing" and that move helped her rebound so quickly once she was freed.

Wed, 01/06/2010 - 01:27 | 183936 TimmyM
TimmyM's picture

Besides that cooperating on an insider trading charge is civil penalty, maybe this was more important than baking cookies: 

Mr. Saleh, an Iranian employee of EDS at the time, led the mob that broke into the prison where the two EDS employees were being held, then helped shepherd them on a harrowing trip through Iran to escape over the Turkish border.

"Unsolicited and with no promise of reward, this guy put his life on the line and didn't flinch,"

Tue, 01/05/2010 - 18:41 | 183501 CBTeas
CBTeas's picture

Wow.  I feel so much better* after reading this great insight from the Cleveland Fed.

 

*about owning gold and miners

Tue, 01/05/2010 - 18:46 | 183506 Mad About Ewe
Mad About Ewe's picture

The probability of recession coming out of the yield curve is low, and this accords with many forecasts that suggest we have already come out of recession—and remember that the forecast is for where the economy will be in a year.

I think you have to be a central banker to understand this statement?  How can a forecast suggest that we're no longer currently in recession that we'll be coming out of in a year?  So basically, there never was a recession?  These jagaloons at the Fed are all standing around shaking there heads saying "I don't see what the big deal is.  The yield curve is positive.  What's everyone getting so worked up about."

I wish I had a red pen that I could correct this paper with.

"Your writing was imaginative but it lacked clarity- D+."

 

 

Tue, 01/05/2010 - 18:54 | 183514 Anonymous
Anonymous's picture

The name of the movie was Brazil.

-MobBarley

Tue, 01/05/2010 - 18:56 | 183518 Zippyin Annapolis
Zippyin Annapolis's picture

And the Cleveland Fed has of course the City of Cleveland the Gem of the Lakes as bragging rights--not to mention the Browns. Hacks.

Tue, 01/05/2010 - 19:08 | 183534 deadhead
deadhead's picture

Home to one of the TBTFs as well...Key Bank.

They had NCC as well, but PNC grabbed that diamond in the rough.

Wed, 01/06/2010 - 00:58 | 183914 Anonymous
Anonymous's picture

Luckily we landed Lebron James and I invested in midcourt seats.

And the Cleveland Fed of course is nothing but formality and one more voice spewing formless drivel upon the information chain of the MSM.

Wed, 01/06/2010 - 03:51 | 184013 Unscarred
Unscarred's picture

I share tickets near the tunnel.  Does LeBron look just as bad from midcourt when he's beating the ball into the hardwood for 18 seconds before pulling the trigger on a turnaround-fadeaway-22-footer?

Tue, 01/05/2010 - 18:58 | 183522 Astute Investor
Astute Investor's picture

By this logic, we would keep ZIRP forever resulting in a permanently upward sloping yield curve and positive GDP growth forever....

Tue, 01/05/2010 - 19:10 | 183536 deadhead
deadhead's picture

Dear Mr. Astute Investor:

Breaking and entering into my personal computer files at the Fed is a felony and I do not appreciate you sharing the information that you have retrieved from my files.

sincerely,

Ben Bernanke

Tue, 01/05/2010 - 19:15 | 183541 MinnesotaNice
MinnesotaNice's picture

That is an great point Astute Investor... and some great humor Deadhead :-)

Tue, 01/05/2010 - 19:43 | 183587 Ripped Chunk
Ripped Chunk's picture

To infinity and beyond!

Tue, 01/05/2010 - 18:58 | 183523 jm
jm's picture

While I am not averse to ridiculing Paul Krugman as a general rule, the Cleveland Fed was the biggest "new economy" pumper ever back in 2000. 

Krugman's "History versus Expectations" is a pretty good read if you add in the comments added by his grad assistants. 

Tue, 01/05/2010 - 19:07 | 183532 deadhead
deadhead's picture

hmmm...so, let's see.

when the fed starts (continues?, depending on one's view of the green shoot "household sector") heavy buying (again) of long bonds (because nobody wants to buy this overflowing septic tank of shit anymore, statistically speaking, of course) to jam rates low to support the mcmansion program, does this mean we are back in a recession? 

You're welcome to respond here Messrs. Haubrich and Cherny.

 

Tue, 01/05/2010 - 19:09 | 183535 MinnesotaNice
MinnesotaNice's picture

I cannot believe that after a full year into this economic implosion... notable (and I use that term quite loosely) economists and bankers are on opposite ends of the spectrum in predicting our economic future... our economic future is resting on crystal balls and tea leaves... nothing more... if this was real science there would be much better consensus on where we are heading... not bipolar, diametrically opposite thoughts on our current economic trajectory.

Tue, 01/05/2010 - 19:16 | 183546 deadhead
deadhead's picture

remember that what one says publicly and thinks privately are often opposed.

remember also that hope springs eternal.

remember also that there is no penalty for economists if they are wrong (kind of like sell side analysts).

remember that the economist community is for the most part dependent on and intertwined with the Fed, kinda like a bunch of little piggies swarming and sucking on a bunch of titties sticking out of a 500 pound smelly old pig rolling around in its own shit. 

I hope this presents a clearer picture for you.  Nice to see you around again Mn Nice!

Tue, 01/05/2010 - 19:42 | 183584 Argonaught
Argonaught's picture

I think the phenomenon you note is actually that people who understand economics all agree on the general causes of the problems and a core set of actions that need to be taken to resolve the problems.  Those people however, do not talk about economics...they tend to be more productive and less politically connected.  When you bring politics into the mix, the entire notion of right and wrong is lost.  Krugman is a perfect example.  He calls himself an economist, but can hardly carry on a discussion of economic principles.  He talks politics and only politics.

Tue, 01/05/2010 - 19:10 | 183537 Anonymous
Anonymous's picture

Firstly, I totally agree that the yield curve is being manipulated beyond belief by the gov't making this kind of research worthless, except for the economists who only plug numbers in a model and take it as gospel, just ignore debt and unemployment and we will be ok (it's cold in Cleveland, maybe thier brains are frozen). But I would really like to see the real correlations for the first two graphs, I've seen so much crap like this in the past where the graphs look good but when you run the real numbers the correlation is much less significant. Your eyes skip a lot of the detail.

Tue, 01/05/2010 - 19:20 | 183553 10044
10044's picture

You gotto love Keynesians going at it, idiot leading the moron. What a fcking joke

Tue, 01/05/2010 - 19:27 | 183558 Anonymous
Anonymous's picture

So, let me get this straight. Given that short term rates will remain low for the foreseeeeeeeable future, we really don't have to worrrrrrrrrry unless long term rates fall below current short term rates, right?

Tue, 01/05/2010 - 19:33 | 183569 Anonymous
Anonymous's picture

the only problem with this fucktarded analysis is that the fed has so warped interest rates through its qe and irs purchases that it is impossible to use this method for predicting future economic activity....

in much the same way that the paper gold market is useless for determining gold backwardation so the yield curve is useless for determining gdp....

Tue, 01/05/2010 - 19:42 | 183585 CB
CB's picture

it's a fairly slick dig at the politically ambitious krugman. sandra & her cleveland clan took him down a notch, no doubt.

Tue, 01/05/2010 - 20:01 | 183615 Anonymous
Anonymous's picture

How can historical yield curve models be used when we have QE. We have never had QE in our history therefore historical models are worthless.

Tue, 01/05/2010 - 20:33 | 183652 ayanni
ayanni's picture

Jusy got cold called from my my neighborhood WFC branch - their personal banker was selling $50 free if you open a new checking account.  I asked for the fine print.  She explained one needs to maintain a $100 balance for 30 days and the $50 is yours to keep.  No shit - this really just happened.  I got the time - I set an appointment for 9am.

I found this interesting being that earlier today I saw USB is running a similar promotion - soon to be in a US Bank branch near you.  However this WFC promotion ($100 balance for 30days) is much more aggressive.   Here is the USB deal. 

http://www.usbank.com/cgi_w/cfm/start_svg/index.cfm?WT.srch=1&WT.mc_id=r5279

Could all of this be in retaliation to Huffingtons www.moveyourmoney.info ?

Just can't make this shit up.

 

Tue, 01/05/2010 - 21:18 | 183712 Anonymous
Anonymous's picture

These guys are insane. They haven't an ounce of common sense........we need to change alot and purge alot of BS in this country.

Tue, 01/05/2010 - 22:09 | 183761 Rollerball
Rollerball's picture

I say the yield curve predicts ... wait for it ... Jubilee!  That's right, Amerika supremely and sovereignly defaults.  OMG "then what", you say?  Nothing, not a God damn thing happens, because that's the way it works.  The Fed is toast by design.  Bubeye.  Game over, we win.  How's that yellow hoarde hoarding yellow workin' out for ya now?  Japan or Taiwan, take your pick.     

Tue, 01/05/2010 - 23:16 | 183825 Gimp
Gimp's picture

Not to get too far off subject but if you are unemployed the recession is real and happening now...I am sure the egg head academic economist asses will just dismiss this minor inconvenience as a jobless recovery.

Pardon me while I whip this out!

 

Wed, 01/06/2010 - 00:03 | 183867 Anonymous
Anonymous's picture

Green Sharts [LoL] Que that climategate song "Hide The Decline" I'm sure some talented out of work musical person could change the words around for these guys..... Kind of a catchy tune

Wed, 01/06/2010 - 02:59 | 183990 Anonymous
Anonymous's picture

So, if I begin to see 10 year bonds as more risky and sell (like Pimpco did recently) due to massive and unsustainable Government borrowing and the rate proceeds to rise, that's actually a positive indicator for future growth. As the debt level rises this indicator is going to become more and more worthless. Foreigners are parking in our 3-month because they refuse to buy long term US debt that will devalue their savings. This keeps the curve artificially inflated.

Wed, 01/06/2010 - 05:48 | 184072 Anonymous
Anonymous's picture

May be those economist reside in Shanghi rather than Cleveland!!??. All they have to do is walk around in their town and forget for a second about their fancy graphs. Plenty of homes in Cleveland are selling sub $5k. From what I see,recession is alive and kicking. Clevelan has homes cheaper than (take your pick from any country on the top list of poor countries). And by the way,why does the FEd even still has those branches in all those long ago vibrant towns?may be they should abolish those branches or relocate them to towns where the new economy is emerging(porno industry for example ala cnbc)

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