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Yesterday I took the growth rate of employment, scaled it to the same amplitude as the growth rate of household debt, and centered the one line on the other. This process stripped away differences between the two lines, other than differences of pattern. That permitted me to compare the patterns of the two datasets.

So then I subtracted the one from the other, to see the difference. The blue line on the graph below shows the difference value. The red line is a Hodrick-Prescott trend line:

Graph #1: "Fitted" Employment Growth Date Less Debt Growth Rate (blue)
and a Hodrick-Prescott Trend (red)

You might have expected to see something like this:

Graph #2: The same data, but the HP calc uses a different value for  lambda

Almost the same. The blue line is the same. The red line is a little bit more wiggly. The big difference is in the legend, where the lambda value has changed from ten thousand to sixteen hundred.

The lambda is a constant used in the HP calculation. I don't know why they call it lambda. But it seems to be pretty important. It seems to be always reported in the notes that accompany graphs that show HP trend lines.

As I noted almost a year ago now, there is apparently a "rule of thumb" for picking a lambda value. It depends on the frequency of the data. For yearly values, a low number (100), for quarterly data higher (1600), for monthly data higher yet (14400).

I already know, from looking at the two graphs above, that the lambda value determines how much "smoothing" you get in the graph. A higher number gives more smoothing.

So I thought I'd look at a variety of lambda values, all applied to the same data. The source data here is quarterly, which means the rule-of-thumb lambda constant would be 1600. Here's what happened when I changed the constant:

Graph #3: Lambda = 100

Graph #4: Lambda = 1000

Graph #5: Lambda = 10,000

Graph #6: Lambda = 100,000

I used to think I should stick to the rule-of-thumb values as a rule. Now I think those values are just a starting point. If I really want to see the trend, I can increase the lambda until the little wiggles go away. And yeah, if you're going to be using non-standard lambda values, then that's a good reason to always report it in the notes that accompany the graph.

//

Preview or Download the Excel file from Google Drive. Note that the file contains my Visual Basic macros for formatting my graphs, and Kurt Annen's Visual Basic for the Hodrick Prescott calculation. Also, above the graph it says 1600 LAMBDA. Change that number from 1600 to some other value, and you change the graph.

// Update 30 March 2014: For my intro to the Hodrick-Prescott calculation, a link to an Excel add-in, a how-to-use link, and a link to some tips, see De-Trending.

I can picture what I want to do. Now I have to find the words...

Here's the second graph from 4AM yesterday, Troy's graph tweaked:

Graph #1: Percent Change from Year Ago, Employment (blue) and Consumer Debt (red)

I said it shows "two lines that run pretty close together except in the 1960s and the 1990s". So I started thinking about subtracting the one line from the other, to look at where the differences arise. You never know if something like that will turn out to be interesting.

That's what makes it so interesting.

Yeah, two lines close together. Except they're on two different axles. Two different axes. The lines are pretty close together, but the numbers themselves are not. Where the blue line is zero, the red line is seven. Where the blue line is 10, the red line would be 23. The numbers are not usefully close. But the patterns are teasingly similar -- and yet intriguingly different during the 1960s and 1990s, the two decades of above-average economic performance. Intriguing.

Then I remembered a technique I learned from Lars Christensen. It goes something like this:

Subtract from Series A the average value of Series A, and then divide by the standard deviation for Series A, and then multiply by the standard deviation for Series B, and then add the average value of Series B. At that point no further adjustment should be needed for comparing A and B.

That set of calculations I call "Christensen-fitting" the data. I don't know if it's a standard technique (and if so, what the name of that technique is) or if Lars Christensen invented it. But I like it.

So I downloaded the data from FRED and set to work.

I went right back to FRED then, changed the monthly PAYEMS series to quarterly so it matched the debt series, and downloaded the data again.

The CMDEBT data was intermittent before 1952Q4, so I deleted the data for both series before that date. Then all I had to do was find a spreadsheet with the calcs Christensen used, and duplicate the calcs. He used the STDEVPA() and AVERAGE() functions, so I did the same. Here are the numbers I came up with:

Next, I went back to FRED and plugged in the numbers for the Christensen-fit. Here is the result:

Graph #2: The Christensen-Fitted Version of Graph #1

This graph looks very much like Graph #1 above. The difference is that now both datasets use the left axis. The PAYEMS numbers have been scaled and shifted to match the CMDEBT numbers.

(Hm. FRED must use a calculation very much like this to scale and shift the right-axis numbers, when two axes are used on a graph.)

Okay. Now that I have the employment numbers fitted to the debt numbers, I can subtract the one set from the other and see the difference:

Graph #3: "Fitted" Employment Growth Date Less Debt Growth Rate

Now it's getting interesting. Uptrend to about 1966. Downtrend to about 1980. Uptrend next, but not as rapid as before. Or maybe it's a low plateau in the 1980s and a higher plateau in the 1990s. And then a big drop -- but the big drop occurs about a decade before the crisis. Now that's interesting.

I subtracted the debt growth rate from the employment growth rate. So where the line is below zero, debt growth is the bigger number. Again, where the line is below zero, the debt growth rate was faster than the employment growth rate... Well, I have to be careful here. The debt growth rate is always faster than the employment growth rate. If I go back to the first graph and put everything on the left axis, it looks like this:

Graph #4: Not Fitted, and On the Same Axis, Debt Growth (red) Is Way Faster

The debt growth rate is always a lot faster than the employment growth rate, except there at the end, after the crisis.

Well, yeah. That's why I fitted the one series to the other. So we could compare them. But I have to be careful how I talk about it. So let me try again:

On Graph #3, I subtracted the debt growth rate from the "fitted" employment growth rate. So where the line is below zero, debt growth is the bigger number. That is, where the line is below zero, the debt growth rate was faster than the "fitted" employment growth rate.

Where Graph #3 is below zero, the debt growth rate is relatively faster than the employment growth rate. Where Graph #3 is above zero, the employment growth rate is relatively faster than the debt growth rate.

Where Graph #3 shows a trend of increase (before 1967), the trend favors employment. Where it shows a trend of decrease (1967-1980) the trend favors debt growth.


I downloaded the "fitted" data from FRED, put it into Excel, and added a Hodrick-Prescott trend line to it:

Graph #5: Same as Graph #3 (blue) with a Hodrick-Prescott Trend (red)

(I'm repeating this graph in tomorrow's post. If you have any comments on my "lambda" value, save them up for that post!)

The trend favors employment till about 1967, then debt till 1980, employment till the mid-1990s, then debt again since maybe 2003 ...

The trend favors employment till about 1967. That's interesting, I think. I have it in my notes that Scott Sumner identifies the years 1952-1964 as a big debt surge. But despite surging debt, employment grew more. Can that be right?

Graph #6

No, of course not. Debt always increases faster than the number of jobs.

But look at it this way: From 1952 to the mid-1960s, employment was winning in a race of go-karts. At the same time debt was losing in a race among dragsters. Then from the mid-1960s to 1980 employment was losing among go-karts and debt was winning among dragsters. That's what Graph #3 and Graph #5 show, the Sumner debt surge of 1952-1964 notwithstanding.

Now look at it this way: The employment growth of 1952-1966 was faster, compared to employment growth of the whole 1952-2013 period, than the debt growth of 1952-1966 compared to debt growth of the whole period.

Debt growth in the early years was only moderate, as debt growth goes, while employment growth in those same years was very good, for employment growth.

Yeah, that's it.

I ♥ Steve Keen

From Closing the door on the GFC by Steve Keen, at Business Spectator:

... central banks hope they can “fine tune” the economy using the interest rate alone, and with US unemployment levels now within cooee of the level at which Ben Bernanke said monetary policy could return to “normal”, the Federal Reserve may start to increase rates in late 2014.

This belief that getting the interest rate right is all that it takes to keep the economy out of recession is the product of economic models, not of economic experience.

...when you look at the data, there isn’t much of a relationship between the interest rate and recessions...

But in fact there is a much clearer relationship when you include one factor that these models ignore: the level of private debt...

...look not at interest rates alone, but interest payments as a percentage of GDP...

You
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Oh yeah, one more thing:

I thought it was a typo.

The new FRED

The pink error message appears to be something left over from the old FRED. Only it's missing a number. It should read like this:

Each data series can only combine up to 10 individual series...

My Data Series 1 has TWO individual series, only one of which appears on the graph, contrary to the "a/b" calculation I entered in a field you can't see in the image.

I got the error when I created Data Series 2, with only one individual series.

I miss the old FRED already.

I tweaked Troy's graph...

Troy linked to this graph in a comment on Jazzbumpa's Equity Extraction and Personal Consumption Expenditures:

Graph #1: Blue is YOY Job Gains, Troy says, and Red is YOY Consumer Credit Growth

Troy wants us to see the part where the two lines are similar, since about 2002, when employment was pushed up and dragged down by changes in credit use. I see it. But what catches my eye is the time before 2002, when job growth was high and debt growth was low. The "macroeconomic miracle" years.

I tweaked Troy's graph to look at more years, and to look at percent change. I got two lines that run pretty close together except in the 1960s and the 1990s:

Graph #2: Percent Change from Year Ago, Employment (blue) and Consumer Debt (red)

In the 1990s, the blue runs well above the red for near a decade. In the 1960s, the same thing happens. Two particularly good decades, the sixties and the nineties. And Troy's graph shows it.

Good graph, Troy.

We owe it to ourselves

Again, Steve Keen:

I couldn’t con­vince sev­eral of the aca­d­e­mics in the audi­ence of the impor­tance of pri­vate debt: they kept com­ing back to “one person’s debt is another person’s asset, there­fore the level of debt doesn’t mat­ter”.

Yeah... and I just ran across this, again, from Paul Krugman of all people:

... So, a few more thoughts on debt and what it does and doesn’t signify.

Start with the numbers that Stockman loves to cite, showing the ratio of total debt, public and private, to GDP...

Stockman, and to be fair quite a few people, would have us see this as evidence that we have been on a vast spending spree...

OK, the sheer size of that number should tell you immediately that this can’t be right. Yes, we have run trade deficits and moved from being a net creditor to being a net debtor, but it’s not that big a deal (and we still earn more on our foreign assets than we pay on our foreign liabilities). So the surge in debt reflects a surge in money Americans owe to other Americans.

Krugman: "the surge in debt reflects a surge in money Americans owe to other Americans."

There it is again, what Steve Keen said: One person's debt is another person's asset. We owe it to ourselves.


Okay. I went back and finished reading Krugman's post. He says:

This is how you want to think about debt: it’s not a burden on the nation’s resources, because it’s mainly money we owe to ourselves, and it’s a problem not because we have to tighten our belt but because debt is currently leading to spending that’s less than we need to maintain full employment.

The last part of that is good -- so good that I can almost overlook the we owe it to ourselves part. But if it is true that "debt is currently leading to spending that’s less than we need to maintain full employment", the growth of debt is the reason.

Krugman acknowledges that debt has grown, but seems to miss the point that it was the growth of debt that gradually undermined the spending we need to maintain full employment. He gets the ending: There was a moment, all of a sudden, when unemployment shot up and an output gap opened. And he can see that the high level of debt was the cause of it.

But debt didn't suddenly jump to a high level and cause the sudden opening of an output gap. Debt was creeping up for a long time, having a harmful effect on growth for a long time, until a final straw broke the camel's back and created the output gap. Debt was excessive -- meaning "debt was hurting the economy" -- for a long time. A long time.

Graph #2: Stages of the slowdown in real growth

Krugman doesn't seem to see it. He says debt is "currently" causing problems. But there is so much more to the story.


Oh, and the other thing: "debt: it’s not a burden on the nation’s resources, because it’s mainly money we owe to ourselves". I don't know what the hell that means: "a burden on the nation's resources". Resources? Debt is a burden on the people who owe it. Even though we owe it to ourselves. Or, to each other. Or, the many of us owe it to the few of us. Whatever.

No matter who we owe it to, the money we pay for our debts is money that goes to finance rather than to labor or to productive ("nonfinancial") business. The money we pay for our debts adds to cost without adding to output. Oh, yeah, we may use that money to produce stuff, or to buy stuff; but we could as easily have used our income for those purposes instead of borrowed money... As easily, or more easily, if policy encouraged it. But policy does not.

Policy encourages saving. Why? I do not know -- Maybe so banks have money to lend?? But hasn't that logic been shot down? So, policy encourages saving for no reason. No economic reason. Policy encourages saving because people like the idea, maybe. It's not a policy that actually helps people save, but nobody seems to get that. Eh, regardless, policy encourages saving.

When money goes into saving, money goes out of circulation. Funny thing is, it's money in circulation that we receive in our paychecks. The money in circulation is money that becomes income. Savings can't be income, because savings is not in the spending stream. Only circulating money flows.

A policy that encourages saving is a policy that makes less money available for use as income. Such a policy has multiple effects. It helps to limit increases of income. So you could say it is a way to fight inflation. Or you could say it prevents incomes from keeping up with the cost of living. Probably both those things are true.

The encouragement of saving also helps credit use grow. Do banks lend out savings?? Regardless, encouragement of saving shifts money out of circulation, creating a shortage of money in circulation. That is a problem people solve by borrowing more. So the encouragement of saving encourages borrowing and encourages the growth of accumulated debt.

So here ya go: Policy encourages saving, which creates a shortage of circulating money, so we increase our borrowing and our debt. Again: less circulating money, and more debt.

Graph #3: Less Circulating Money and More Debt Push the Debt-per-Dollar Ratio Up

From five dollars of debt for every circulating dollar, to more than $15 by 1990, to more than $35 by the time of the crisis.

The cost of a loan depends on the interest rate you can get. But for the economy as a whole, the cost of finance depends on two things: interest rates, and the level of debt accumulation.

The level of debt matters, because it affects the macroeconomic cost of debt.

Type stuff in the yellow cells

I want to look at accumulated debt as a percent of GDP in 1955 and in 1980 and in 2005. I want to use ceteris paribus and assume the rate of interest is constant: We know interest rates are not constant in the real world, but we need to focus on something else at the moment -- we need to focus on the accumulation of debt -- and the effect of varying interest rates is something we can look at later.

Given a load of debt at say a 5% rate of interest, the cost of that debt varies with the level of debt relative to GDP.



According to one reliable source, debt was 132 percent of GDP in 1955, 159 percent of GDP in 1980, and 311 percent of GDP in 2005. Plug those numbers into cell D2 of the spreadsheet, and note the changes in the cost of debt as a percent of GDP.


Assuming a constant 5% interest rate, total interest cost in 1955 amounts to 6.6% of GDP; in 1980 to 7.95% of GDP; and in 2005 to 15.55% of GDP. We assume no change in the interest rate, so the increasing cost of debt shown here is due entirely to the increasing accumulation of debt.

Blowin' in the Wind

In a recent look at trends of total factor productivity at Twenty-Cent Paradigms, Bill C linked to two NBER papers by Robert Gordon. One paper, and an update.

NBER provides access to abstracts of those papers for free, so that's what I'm looking at. The first paper is Is U.S. Economic Growth Over? Faltering Innovation Confronts the Six Headwinds. The phrase "six headwinds" catches my eye; it promises a summary view of problems that, in Robert J. Gordon's view at least, interfere with economic growth:

Even if innovation were to continue into the future at the rate of the two decades before 2007, the U.S. faces six headwinds that are in the process of dragging long-term growth to half or less of the 1.9 percent annual rate experienced between 1860 and 2007. These include demography, education, inequality, globalization, energy/environment, and the overhang of consumer and government debt.

"And the overhang of consumer and government debt." Last, but not least.

But you know what? Robert Gordon expresses concern only with consumer debt and government debt. He doesn't express concern with the debt of farm business or nonfarm noncorporate business or nonfinancial corporate business. Nor does he express concern over the many components of domestic financial debt. Yes, concern with any debt (other than the tiresome focus on only government debt) is something to be thrilled about. But still...

Graph #1: Consumer and Government Debt as a Percent of Total Debt

The debt that concerns Robert Gordon is less than half of credit market debt, and until the crisis was a decreasing portion of it.

Yeah... So what does Mr. Gordon say in the update?

The primary cause of this growth slowdown is a set of four headwinds, all of them widely recognized and uncontroversial. Demographic shifts will reduce hours worked per capita, due not just to the retirement of the baby boom generation but also as a result of an exit from the labor force both of youth and prime-age adults. Educational attainment, a central driver of growth over the past century, stagnates at a plateau as the U.S. sinks lower in the world league tables of high school and college completion rates. Inequality continues to increase, resulting in real income growth for the bottom 99 percent of the income distribution that is fully half a point per year below the average growth of all incomes. A projected long-term increase in the ratio of debt to GDP at all levels of government will inevitably lead to more rapid growth in tax revenues and/or slower growth in transfer payments at some point within the next several decades.

He reduces six headwinds to four. And he abandons concern with private debt.

1. Demographic shifts: People are exiting from the labor force because the economy is so bad. Fix the economy, and you'll solve Robert Gordon's demographic problem.

2. Education: Again, fix the economy. Make it so that there's a chance getting an education will be beneficial. Make it so that you can get a damn job when you get out of school. This will fix Mr. Gordon's second headwind.

3. Inequality: The growth of inequality is a result of the supply-side policies imposed on our economy since the late 1970s. Those policies were put in place to solve a problem. The policies didn't solve the problem, and they created a new problem. Get rid of those policies, and you eliminate Mr. Gordon's third headwind of four.

4. Government debt: Government debt? No. Private debt, or maybe all debt. But certainly not just government debt.

Fix the economy. Create policies that discourage the accumulation of private debt. Tear down this wall of policies that encourage the accumulation of private debt. Reduce the cost of finance. That's all we need to do. And then eliminate the "fixes" we put in place, that created inequality and globalization and other problems.

The rest will take care of itself.

I can't let this go, Tom

In The Real Ponzi Scheme: Private Debt at Asymptosis (from 2011), we read:

Economists will tell you that gross debt levels don’t matter because one person’s debt is another’s holdings. (Net: zero.) They ignore it.

But if the gross private debt is too large, the real assets in the real economy can’t generate enough income to pay it off. Not really complicated, conceptually.

My reply:

“Economists will tell you…”
Second time I’ve heard that, lately. Got a link or two handy?

I was having a hard time believing that anyone would say gross debt levels don't matter. Steve Roth provided a link; Steve Keen speaking:

One part of the dis­cus­sion that I found quite notable was that, even after show­ing empir­i­cal evi­dence on the impact that ris­ing and then falling pri­vate debt had on the econ­omy both now and dur­ing the Great Depres­sion, I couldn’t con­vince sev­eral of the aca­d­e­mics in the audi­ence of the impor­tance of pri­vate debt: they kept com­ing back to “one person’s debt is another person’s asset, there­fore the level of debt doesn’t mat­ter”.

In the years since, I've come to see that too many people say gross debt levels don't matter because it all nets out to zero.

(Scratching my head) Where've I seen that recently?

Oh, I know. Tom at Mike Norman's:

These morons apparently don't realize that all money is created by crediting and debiting accounts. Money functions as a unit of account, medium of exchange, store of value, and record of debt. Every debt has a corresponding credit denominated the unit of account of that jurisdiction, so that all debt as someone's liability is someone else's asset, which nets to zero.

No, Tom. You're emphasizing the wrong things, and you are leaving out cost.