Existing Home Sales are going to be released later today. Economists expect the number to be around 4.9 million homes. They expect the percentage number for Existing Home Sales to be about 1.4%.
Below is a David Zervos piece on Ben Bernanke's speech at Bard College over the weekend. Here is the pertinent points:
Ben said: "In short, both humanity's capacity to innovate and the incentives to innovate are greater today than at any other time in history."
Zervos wrote: "That is a VERY strong statement. And it is the second part that is most interesting - "the incentives to innovate". In between the lines, this is where monetary policy comes into play. Our incentives to be innovative, to take on risky projects, to invest in the equity of new company and to be entrepreneurial have been altered significantly by monetary policy. When the Federal Reserve drives expected risk free real rates lower and lower, they penalize us for not taking risk. They penalize us for hoarding."
Me: There is little or no reward for not being in the risk markets (stock market, private equity, etc.). There is almost zero return on cash, and probably a negative return on bonds going forward.
-----Original Message-----
From: DAVID ZERVOS (JEFFERIES LLC) [mailto:dzervos2@bloomberg.net]
Sent: Wednesday, May 22, 2013 6:27 AM
To: John Broussard
Subject: The incentives to innovate and the supercillious
Ben's speech at Bard college over this past weekend was touted as a non-event for monetary policy. I beg to differ. I thought this speech told you more than nearly any other about how he views the monetary policy transmission process into the real economy. The speech also reveals his deep seeded love for supply side economics and real business cycle theory. Let me explain below, but first a bit of history.
Back in the 1980s, the neoclassical economics revolution was just beginning to flourish. Bob Lucas, Ed Prescott, Tom Sargent, Bennett McCallum, Bob Barro and Bob King were building macroeconomic models based on micro foundations. General equilibrium theory was fast becoming the foundation of modern macroeconomic thought, and rigorous mathematical models were replacing arbitrarily parameterized Keynesian "consumption functions", "Phillips curves" and "money demand equations".
It was a new dawn in the field of macroeconomics, but it did not come without many critics. Die hard Keynesians, such as Bob Gordon, William Nordhaus, Paul Krugman, Rudy Dornbush and Larry Summers, did not have many kind words for the neoclassical macroeconomic revolution. What particularly irked the Keynesians (besides the fact that the didn't have the math skills to understand the models), was that the neoclassical approach did not generate a significant role for government intervention in the marketplace. You see, the driver of the business cycle in these neoclassical models was technological advance, or what many referred to more broadly as supply shocks. In a world driven by the supply side, there was very little role for activist fiscal or monetary policy. Further, most of these models showed that bigger government, higher taxes and more regulation were all deterrents to long-run growth.
Of course in the traditional Keynesian model of the business cycle, aggregate demand shocks drove fluctuations. For a Keynesian, the business cycle might be damped by a negative shock to equilibrium consumption or investment patterns. Such a shock could come from shifts in animal spirits for example. It would then be up to policy makers to conjure up the right cocktail of fiscal and monetary policy to rectify the "disequilibrium" situation on the demand side. Policy makers played a crucial role in dampening the extremes of business cycle fluctuations.
For a neoclassical economist, there were no "disequilibrium" situations. The models were based on rational economic decision processes. The business cycle might be on an upswing because of some technological advancement in the field of medicine or energy. But in that situation there was no need for fiscal or monetary policy to become more restrictive as a means to stop some over heating process. Alternatively, there may have been a negative terms of trade shock that drove production and employment lower. There again was no role for counter cyclical policy. If the opportunities were not ample, there would be less employment, if they were ample, there would be more employment. In the neoclassical world, the only role for government was to provide "modest" levels of public goods!
Obviously, with such a large role for government within one group, and such a small role in the other group, the macroeconomic community was divided not just on theoretical lines, but also on partisan political lines.
Now as the academic macroeconomics field advanced over the past 25 years, the controversies became less severe. Neoclassical theories needed to allow for market imperfections, ridgities and some form of demand side shocks. We all learned that animal spirits play a critical role in business cycle fluctuations as bubbles brewed and crisis ensued. And on the other side, the Keynesians needed to add more microfoundations and rigor to their analysis. The consensus seems to have converged on DSGE models (dynamic stochastic general equilibrium models), where there is a role for both monetary and fiscal policy to attenuate business cycle fluctuations in the context of both supply shocks and demand shocks. Still today there are Keynesians who focus more on the demand side and Classists who focus more on the supply side - but the divide has narrowed.
Now, as to be expected, Federal Reserve officials have generally focused on demand side issues when discussing their reasons for altering monetary policy. We hear a lot about output gaps, NAIRUs and economic slack - concepts that are firmly rooted in Keynesian demand side policy thinking. We generally do not hear much about productivity gains, technological advance and innovation in the Fed minutes, statements or even speeches. Policy need not react to supply side shocks so there is less always focus.
Of course we used to hear much more about supply side concepts from the Fed in the Greenspan era - productivity miracles and technological advance were all the rage in the 90s. And in many ways these supply shocks were taken as reason for monetary policy NOT to be reactive. In any case, its been some time since we heard a positive (or negative) supply side story from inside the Fed.
That is why it was such a pleasant surprise to read Ben's speech this past weekend - http://www.federalreserve.gov/newsevents/speech/bernanke20130518a.htm. It was upbeat, optimistic, and full of supply side thinking - it reminded us all about the basic tenants of neoclassical economics and real business cycle theory - it reminded us how amazing the changes in lifestyle have been over the last 25, 50, 100 and 250 years. Ben also summarily dismissed some of the most pessimistic views on long run growth and the business cycle. He told us not to believe curmudgeon Keynesians like Robert Gordon who write papers like this - http://m.nber.org//papers/w18315. And he told us stop whining about some new normal of low growth. But most importantly he made this observation -
"In short, both humanity's capacity to innovate and the incentives to innovate are greater today than at any other time in history."
That is a VERY strong statement. And it is the second part that is most interesting - "the incentives to innovate". In between the lines, this is where monetary policy comes into play. Our incentives to be innovative, to take on risky projects, to invest in the equity of new company and to be entrepreneurial have been altered significantly by monetary policy. When the Federal Reserve drives expected risk free real rates lower and lower, they penalize us for not taking risk. They penalize us for hoarding. They penalize us for having broken animal spirits.
And of course, after the events of 2008 it was natural for animal spirits to be broken - 401k's, home values and jobs where all shredded. And no one wants to jump up immediately and start throwing punches again after getting punched in the face repeatedly. Most just want to nurse their wounds and hide in the corner. But if we all sit outside of the ring, and take no risk, there will be no growth, no technological advance and no productivity gains. It is the aggressive QE, the aggressive money printing, and the aggressive taxing of those who hoard that generates the financial repression which recharges animal spirits and starts the business cycle anew. It makes us want to start throwing punches again.
Ben tells us the incentives to innovate have never been better. That's because of him and his highly negative real rates. However, underlying all of these demand side problems, Ben's model for the world is neoclassical. It is a real business cycle model in it guts. There is of course a role for monetary policy in fighting the collapse in animal spirits - but the driver of long run growth is not Ben, he is only the incentiviser. The true underlying driver is the supply side. As you read his speech that is clear - in the end its all about innovation, technological advance and productivity, not monetary policy.
Today we are all being incentivized/forced to either take risk or face guaranteed real losses. That is the portfolio balance channel at work. That is what Ben's model tells him to do. He told us those incentives have never been greater, and he should know, he is the one driving them. So put that cash to work fast, or prepare to lose. It is that simple.
Of course, there are those who fear that all this risk taking will fall flat. Shale gas will be a bust; cracking the human genome will lead to no medical advancement; and basically, in some Robert Gordon style twisted logic, all the good inventions have simply already been made. Those folks are the ones who want to cuddle up next to a warm fire with the collected works of Thomas Malthus and move all of their wealth into physical gold. Their preferable storage area of course is a panic room in the basement with plenty of guns and canned goods.
A few weeks back I wrote about these different viewpoints on how one should react to Ben's "incentives" in a piece titled "Spoos are for lovers, and gold is for haters". Some of those in the more banal reaches of the financial press picked up this piece and referred to the analysis as supercillious - http://online.barrons.com/article/SB50001424052748704551504578481043764806974.html#articleTabs_article%3D1. I have been called many things before, but never supercillious. Rest assured that I am always humbled by markets, and even when things are going right, I am always looking for failures in the logic. It is why I love being on the road debating all of the smart clients we have at Jefferies. I always learn more, and view gets more refined. For me, it is not about ego or sanctimony, as some are suggesting, it is about making money. As one of my close friends and ex-colleagues once said about our business - we are not here to cure cancer, we are here to make money. And let's face the facts, being a lover has made A LOT more money than being a hater over the long run. In fact, its also worked extremely well over the recent short run. Of course, as one reads Ben's speech it becomes clear that he too is a lover. So after you read it, send it to a friend - help spread the love. The world needs it!! And remember, as they always say, don't fight the Fed - don't fight the lovers!!! Good luck trading.
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