US economy today

We ´ve known today that the IV quarter  GDP (black line) rose a 3,2% (annualised). In the graph, some indicators that show the US economy is rising gently (Nominal GDP, Industrial Prod), but a lot of productive capacity (red dashed line) is idle.

At the same time, unemployment is falling (red solid line), and external imbalance (green line) is stable at a manageable level.

The signs of idle capacity and high unemployment talk about a certain margin before inflation pressures could appear. Similary, the controlled net imports means that the external finance are in order.

Before the crisis, the Fed did not use to look closely for external disequilibrium. If we enter the variable in the model, probably the potential output would be quite lesser than it is supposed. That is the reason to follow closely BoP: Deficit are financed by foreign capital, which has been a main factor of the crisis through MBS an other toxic products.

FRED Graph

Euro in 2011

What to expect for te euro zone next year?

In Wolfgang Münchau article ( you can get an excellent perspective of the possible eventuality for the European Money.

Summing up, what we have is that the survival of the euro will mean a lot of misery.  Why? because the best condition of financing sovereign debt will be  quite impoverishing. That is because interest rate would be higher than NGDP growth which will crowd out resources to create jobs. If interest rate of the debt is higher than NGDP growth, th ratio Debt/NGDP is susceptible of exploding.

So how many time we must expect a trend of misery, high unnemployment, and low life level to save the euro?

I´d like to point out some Münchau´s paragraph:

1) The eurozone survived 2010. My prediction is that it will survive in 2011. The question is, in what condition?

2) Most of the countries in the periphery suffer from a competitiveness problem – which is what makes this crisis so toxic. If you reform your labour markets and deflate your wages to become more competitive, inflation falls, and so may house prices. The real value of your debt explodes and you might end up insolvent. Combined debt and competitiveness problems are very hard to resolve without devaluation or inflation. It is not a matter of discipline. Infinite discipline could still make you insolvent.

3) The European financial stability facility (EFSF) is lending money to Ireland at an interest rate of about 6 per cent, which is higher than the country’s nominal growth rate is likely to be for many years. While the loan solves Ireland’s funding problems, it actually exacerbates the country’s underlying solvency problem. The Irish situation reminds me of one of these loan shark advertisements: “Need money fast? No questions asked.”

4) Spain should be solvent, but of course there always exists an interest rate/growth rate combination at which the solvency assumption breaks down. With 10-year yields no higher than 5.5 per cent, the approximate current level, I would expect Spain to go through a severe and long recession, possibly with further asset price falls. Productivity will probably remain low and unemployment high for the foreseeable future. But the country should remain solvent – miserable but solvent. If interest rates were to rise to over 6 or 7 per cent, perceptions of Spanish solvency may change.

5) All existing bondholders will be protected until 2013. All government bonds issued from 2013 onwards will have collective action clauses. This means that if a government cannot service the debt, it can agree a haircut with a majority of investors – with legal force for all investors, including those who disagree with the majority vote. Looking at it from a risk-management perspective, this means that the entire default risk of the eurozone periphery will be concentrated on post-2013 bond issues. No one in their right mind would buy such junk bonds.

6) The way the new crisis mechanism is constructed ensures that the market for European periphery bonds is going to remain thin. What is now being conceived as a new crisis mechanism may end up as the eurozone’s principal funding agency if no one else will provide the funds. It would issue its own bonds – eurozone bonds – underwritten by the few remaining triple A-rated sovereigns, most importantly Germany and France. It is hard to see how such a construction could be sustainable. Should there ever be a default, Berlin and Paris would have to pay up – or default themselves.

This year, Europe’s political leaders pledged to do “whatever it takes” to save the euro. They never answered the question of what that meant. My central prediction for 2011 and beyond is that we will find out.

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