Some Popular Misconceptions

April 12, 2011

The Federal Reserve is a whipping boy of the disgruntled.  Critics of the Federal Reserve often accuse monetary officials of deliberately depreciating the dollar through its quantitative easing.  A weaker dollar in turn is popularly associated with the rise in oil prices, and the resulting squeeze on household disposable income and corporate profit margins could crimp economic growth. Bernanke and company get scant credit for avoiding a more prolonged and deeper recession or for the shallower downturn of the U.S. economy than other advanced economies where central banks were less stimulative.

Relative economic growth tends to be cited a positive currency factor.  Results do not support this perception.  The theory is that money chases the opportunity for real economic growth, and capital flows dominate foreign exchange valuation.  Over the dozen years from 1999, when the euro was launched, through 2010, real GDP expanded 2.1% per annum in the United States, 1.5% per annum in the euro area and 0.8% per annum in Japan.  However, a comparison of current exchange rates to those at end-1998 produces an inverse ordering of currency strength, with the yen on top followed by the euro and finally the dollar.  The yen has appreciated 35.8% against the dollar, and the euro is 23.5% stronger now against the U.S. currency than at its inception.

Excessive government spending is widely blamed for the enormous budget deficitsU.S. government expenditures rose 0.8% between 4Q08 and 4Q09 and by 1.1% between 4Q09 and 4Q10.  Such expanded 1.7% per annum during the four years from 4Q06 to 4Q10.  The 21 century started with the U.S. federal budget in surplus.  Substantial tax cuts were enacted since then, and the country has been engaged in its longest uninterrupted period of war.  Obamacare will produce profound change in healthcare spending, but those are future changes and may yet get rescinded.  The broad theme of healthcare has really been one of great resistance to change.

The high rate of unemployment dampens the aura of recent world growth disproportionately.  Global GDP expanded at an average 3.3% per annum pace from 1993 to 2003 and by a significantly better 4.6% rate over the following five years of 2004-08.  During the great recession, such was halved to a 2.2% pace in 2009-10, but it is projected by the IMF at a pace of 4.4% in 2011-12.  Advanced economies had expanded 2.3% per annum in 2004-08.  After dipping 0.3% per annum in 2009-10, their economic growth is projected at 2.5% per annum over the coming two years.  This still lies below their pace of 3.1% per annum in 1993-03.

Copyright Larry Greenberg 2011.  All rights reserved.  No secondary distribution without express permission.


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