The economy and the market

1. The economy and the market Is there a disconnect

2. Things I have learned • Everything the government spends must come from the private sector • When government taxes the private sector and spends money inefficiently it makes us poorer • Wealth creates income • Markets and people were invented before government

3. Things I have learned (cont) • Economists are terrible at predicting the next recession • Politicians do not have a good understanding of how our economy works • Regulation and taxation change behavior • There are two schools of thought in economics—the engineering school and the behaviorist school.

4. Things I have learned (cont) • The conventional wisdom is often wrong • We often come up with answers before we know what the question is • Money must go somewhere • Never always comes sooner than you think

5. Two aspects of the economy • The output or real side • The financial side • At some point they must agree

6. How are we doing on the output side • GDP growth has been agonizingly slow. The long term trend is about 3.1% and as you come out of a recession is always much faster. We have been much slower averaging about 2.1% per year since the recession • Unemployment is not falling nearly fast enough and at current rates of job creation it will take years to get back to full employment

7. How is employment doing? • In order to be employed you must be working one hour per week for pay. • To be unemployed you must not be working but looking

8. Total number employed

9. Number of unemployed

10. Discouraged workers

11. Participation rate

12. What are the results of this slow growth? • Real per capita disposable income is lower than it was in 2008 • Real private fixed investment is less than in 2006 • Real consumption is growing at less than 2% per year • Industrial production is less than in 2007

13. Why is the market doing so well? • Cheap money supplied by the Federal Reserve • Low interest rates encourage over speculation in an attempt to increase returns • May create a bubble

14. Monetary base (total reserves)

15. Excess reserves

16. Why are excess reserves so high? • Reluctance to loan • Fed is paying interest on those reserves • Dodd Frank bill • Fed is buying $85 billion per month in US Debt to keep interest rates near 0

17. Money supply 2

18. Implications Under most circumstances this would lead to huge increases in money supply and inflation in the price of consumer goods. It has not. It has lead to price increases in assets. Any attempt to reduce the growth of reserves will increase interest rates and drive down asset prices. How soon this will be is a guess