Wednesday, March 12, 2014

Resource Utilization & Inflation (excerpt)

Keynesians tend to focus on the “slack” in the economy as measured by the “output gap” between potential and actual real GDP. Inflation tends to decline (increase) when there is too much (not enough) slack.

Fed Chair Janet Yellen is a card-carrying Keynesian. Members of this club have been frustrated that ultra-easy monetary policy hasn’t boosted aggregate economic demand sufficiently to close the output gap and boost inflation. While lots of stimulus was provided by the American Recovery and Reinvestment Act during 2009 and 2010, they bemoan that there has been too much fiscal drag since then. They conclude that ultra-easy monetary policy must be maintained for as long as necessary to close the gap.

I don’t track the output gap very closely, but I do monitor a monthly proxy for it, i.e., the resource utilization rate (RUR). It is simply the average of the capacity utilization rate and the employment rate, which is 100 minus the unemployment rate. RUR has increased from a low of 78.7% during June 2009 to 86.0% during January. Interestingly, the correlation between RUR and the core CPI inflation rate is actually quite low.

Today's Morning Briefing: Inflation & Rule of 20. (1) The Golden State. (2) Investors getting their bearings. (3) Lots of unfulfilled bearish scenarios. (4) The Rule of 20 justifies higher P/Es. (5) Near-zero inflation might not be so bullish. (6) Why is inflation so low? (7) Monetarist model hasn’t delivered. (8) Keynesians see slack. (9) Not much cost inflation to push into price inflation. (10) The competitive market model explains it all. (11) Might easy money be deflationary? (More for subscribers.)

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