Preliminary sign of a coming contraction
Enjoy this Christmas because next year Christmas may not be as Merry…
As real GDP nears the effective demand limit, we should see some signs of the economy turning the corner toward a contraction. So, do we see any signs? … Well, yes.
This graph plots the aggregate profit rate against the savings rate of capital income.
Aggregate profit rate uses the left axis. Capital income’s saving rate uses the right axis. (vertical red lines are starts of recessions.) I have adjusted the axes so that the lines come together and then split apart through time. The economy reaches its limit of expansion when the lines are “far” apart. A recession occurs as the lines come back together.
The most recent data implies that the economy is reaching the limit of its expansion. Capital income’s savings rate tends to decline to a level around 59% since the 80’s. Then it rises before a recession. It jumped briskly up in the 3rd quarter 2013. You really only see increases like that before and during recessions.
In the 3rd quarter 2013, capital income is saving more because government borrowing and private investment both rose. That may not seem like a cause for a recession, but there is another side to this. Capital income consumption of final goods and services drops, which also happened in the 3rd quarter 2013.
Also, some capital over-extends itself at this moment of optimism to their future sorrow. Some capital income protects its assets too. This dynamic of some getting into trouble while others are getting out of trouble is a common dynamic at the end of the business cycle.
As for the aggregate profit rate, it has been flat, but high, for 2 years. A flat aggregate profit rate is a sign of real GDP reaching the effective demand limit. The aggregate profit rate is showing signs of reaching its expansion limit.
The trend would now be to see these lines move together over the next year increasing the likelihood of a contraction. We will have to wait until March 2014 to get a good reading for 4th quarter 2013.
I realize many economists celebrate the strong real GDP growth of over 4% in the 3rd quarter 2013, and they forecast more strong growth for years to come… Many people get enthusiastic too. It is easy to celebrate the height of an expansion. However, everything needs to be put into the context of a larger picture. The dynamics of profit and savings for capital income are signaling the limit of the economic expansion.
The US economy is growing at 5% the 2nd half of 2013 and about at 4% for 2013 as a whole. The government always misses.
labor demand is rising as labor incomes are now beginning to rise. don’t get caught up in government lags.
If you look at Keen’s graph of the change in public and private debt/gdp here…
(fig 6 ) http://www.businessspectator.com.au/article/2013/12/23/economy/why-australia-must-avoid-austerity
… it looks like combined debt/gdp is growing at about 10% per year currently , up from ~7% or so growth in late 2011. Assuming that fiscal consolidation slows down from here , while private debt/gdp continues growing at the current rate , or more , then we could see a restart of our old debt-led growth regime , which might be sustainable for quite a while , especially if new debt is coming on at lower interest rates than any old debt it replaces.
This would allow growth to continue without the need for any troublesome restructuring of the income distribution , keeping the status quo plutocrats happy. That’s the plan , I suspect.
More can-kicking , in other words.
I find it aggravating that Keen never looks at combined public and private sector debt dynamics when he shows his “credit acceleration” graphs , but Hatzius at Goldman put out a graph recently that does :
( exhibit 6 : Private and public sector impulse )
http://www.businessinsider.com/goldmans-jan-hatzius-on-sectoral-balances-2012-12
He shows the combined debt acceleration ( impulse) turning positive about now and remaining so through 2016 , assuming , I guess , that there are no “surprises”.
Sorry , the link above was from 2012. Here’s Hatzius’ more recent graph :
http://www.businessinsider.com/jan-hatzius-chart-of-the-year-2013-12
nominal debt should accelerate.
Yes , nominal debt should accelerate , but the ratio of nominal debt to nominal gdp should not accelerate over the long term. Instead , debt/gdp acceleration should fluctuate around zero , so as to maintain a stable level of debt/gdp.
Name an economy that has done well with a debt/gdp ratio of 1000%.
A massive default of some kind ( jubilee , hyperinflation , etc. ) becomes a certainty at some point. See Minsky.
A rapidly shrinking federal deficit isn’t good, either.
We are due for another slowdown, and with unemployment and underemployment still quite high, I wonder how we will handle it.
Please pardon my ignorance. Could you explain how to derive/calculate the savings rate of capital income? Thanks.
Mike Baker,
Here are the equations…
Capital savings rate = capital savings/capital income
Capital income = capital share * national income
Capital share = 100% – labor share of 72.4%
Capital savings = Gross capital savings – capital consumption of imports
Gross capital savings = Gross national savings – gross labor savings
Gross labor savings = Gross national savings * (a rate that allows capital and labor to consume equal rates of imports with income)
Gross national savings = real GDP – consumption – govt net tax revenue + imports
Govt net tax revenue = govt spending – net govt borrowing
Real GDP, consumption, govt spending, govt net borrowing and imports come from the NIPA tables.
Govt net borrowing is converted to real value using GDP deflator.
In 3rd quarter 2013…
Capital savings was $2,809 billion.
Labor savings was $507 billion based on 4.9% personal savings rate.
Capital savings rate of 64.2% = capital savings of $2,809 b./ capital income of $4,373 b.
In 2nd quarter 2013, capital savings was $2,517 billion. It rose $292 billion to 3rd quarter.
From NIPA tables, from 2nd to 3rd quarter…
private Investment rose $102 billion.
Govt net borrowing rose $215 billion.
Together they rose $317 billion.
The increased capital savings of $292 billion almost covered the increase in net borrowing of $317 billion. $25 billion was left over. Personal savings rose $30 billion to fill the gap. The extra $5 billion was matched by the $5 billion drop in the trade deficit..