When Lawyers Play Economist: 4 Reasons the Economy Faces Trouble in 2014

John Ransom
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Posted: Dec 18, 2013 12:01 AM
When Lawyers Play Economist: 4 Reasons the Economy Faces Trouble in 2014

As the Federal Open Market Committee (FOMC) of the Federal Reserve Bank meets to decide if it will or won’t tighten the money spigot known as QE, my bet is that the Fed stands pat.

Of course, that means I’m probably wrong, because the Fed never does the thing I think it ought to do, even the thing I think it will do.

But for better or worse here are my reasons:

1) The strength in the economy is more apparent than real. Our friends over at Political Calculations have done some investigation into apparently “robust” economic growth that the economy witnessed in the third quarter of 2013. What they found was that growing conditions were almost perfect for crops around the country. As a result, the U.S. was able to boost GDP—and exports—through bumper crops. From Political Calculations:

We drilled down into the Census' data on what the U.S. exported to China. And what we found is that the U.S. exported a record amount of soybeans to China in October 2013, the value of which accounted for 22.6%, or nearly $1 out of every $4 of the value of all $13.060 billion worth of the U.S.' exports to that nation, accounting for nearly all of the year-over-year increase.

So where did all these soybeans come from? Because they definitely weren't there last year....

It turns out that weather conditions in 2013 across all of North America were nearly ideal for growing just about every crop grown in the U.S., with the result that U.S. farmers were harvesting bumper crops of just about everything they grow in August and September 2013.

Those bumper crops, in turn, solves a different mystery: why did the U.S.' GDP unexpectedly grow so much on increased business inventories in the third quarter of 2013?

    2) Obamacare will be more of a drag on the economy in 2014 than it was in 2013. You know those mandates Obama postponed for a year? A new year will start in a few short weeks. And then watch out. Much of the employment market, the health of which is a key determinate of the continuation of QE, will be thrown into disarray, again. The members of the FMOC are aware of this. While it’s true that many of the health "reform” mandates are delayed BEYOND the mid-terms, that doesn’t mean the effects of Obamacare won’t be felt prior to the mid-terms. Remember, by December of last year companies were already making changes to hiring in order to accommodate Obamacare. While the employer mandate won’t be effective until January 2015, the disruption should be felt well before then. Here’s what Timothy Jost, a law professor at Washington and Lee who supports Obamcare said at the time the employer mandate was delayed in July 2013: “I hope that this means that employers who have been cutting employees to part-time will now call them back to full-time employment, but regret that the administration is delaying the implementation of an important provision of the ACA.” Jost can’t have it both ways. Those people called back to full time employment as a result of the delay are going part time again in 2014. That’s what happens when law professors try to “reform” the economy.

    3) The Fed doesn’t like to take the markets by surprise. Ben Bernanke, just in time to leave, has figured out the art of telegraphing his intentions. He was notably terrible in this role previously. The markets aren’t making new highs on the basis that the economy is improving by leaps and bounds. They are going to new highs because they think the risk of a cutoff with quantitative easing is low to minimal.

    4) The Housing Market has cooled off. For everyone from economists to electricians this is bad news. One of the central features of our economy is housing. The rise in interest rates precipitated by the bond market sell-off has cooled of housing big time. Again Political Calculations provides some context:

We believe we've identified where the distress in the U.S. economy is originating. A number of Real Estate Investment Trusts (REITs), which allow stock market investors to be able to invest in the nation's real estate markets, have been acting to cut their dividends.

This follows the apparent stagnation of the U.S. new home real estate market, which has seen price increases stall out in recent months as mortgage rates spiked upward, largely upon the speculation that the Federal Reserve will act to trim the amount of U.S. Treasuries and Mortgage-Backed Securities from its current buying pace of $85 billion per month, which has driven that increase in U.S. interest and mortgage rates.

Ironically, it’s merely speculation that the Fed will start to taper that will help continue quantitative easing. As interest rates have gone up the housing market has cooled off a bit more than perhaps the Fed governors would like.

Here’s the more worrisome trend however: In those moments when the stock markets rally on more QE, the bond market doesn’t react with lower interest rates. Instead interest rates have remained at higher levels.

This is either because the bond market thinks QE is coming to an end or, more ominously, it’s because the bond market thinks that there is more risk in QE than the markets appreciate.

In 2014, the trouble is, we’ll find out which is right.